---

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# UNITED STATESSECURITIES AND EXCHANGE COMMISSIONWASHINGTON, D.C. 20549

# FORM 20-F

|o | REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR 12(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           1934For
the fiscal year ended December 31, 2007
|- | -----------------------------------------------------------------------------------------------------------------------------------------

OR

|o | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________ to ___________
|- | -------------------------------------------------------------------------------------------------------------------------------------------------

OR

|o | SHELL COMPANY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934Date of event requiring this shell company report ______________
|- | -----------------------------------------------------------------------------------------------------------------------------------------------------------

Commission File Number:
0-29442

FORMULA SYSTEMS (1985)
LTD. (Exact Name of
Registrant as Specified in Its Charter)

Israel
(Jurisdiction of
Incorporation or Organization)

3 Abba Eban
Boulevard, Herzlia 46725, Israel
(Address of Principal
Executive Offices)

Guy Bernstein, CEO, 3 Abba Eban Boulevard, Herzliya 46725, Israel
Tel: 972 9 9598800, Fax: 972 9 9598877(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              | Name of each exchange on which registered
|Ordinary Shares, NIS 1 par value | Tel Aviv Stock Exchange                  
|American Depositary Shares       | NASDAQ Global 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



---

---

As of December 31, 2007, the
registrant had 13,200,000 outstanding ordinary shares, NIS 1 par value, of which
347,417 were represented by American depositary shares as of such date.

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

Yes o 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 o 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 o

Indicated by check mark whether the
registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer.
See definition of accelerated filer and large accelerated filer in
Rule 12b-2 of the Exchange Act. (Check one):

|                          |                     |                        
|------------------------- | ------------------- | -----------------------
|
|
|
|
|Large accelerated filer o | Accelerated filer x | Non-accelerated filer o

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

US GAAP x

International Financial
Reporting Standards as issued by the International Accounting Standards Board o

Other o

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 o Item 18 o

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 o No x



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# P A R T  I

---

Some
of the statements in this annual report, including those in the Risk Factors, Item
3. Key InformationRisk Factors, Item 4Information on the
CompanyBusiness Overview and Item 5Operating and Financial Review
and Prospects, are forward-looking statements that involve risks and uncertainties.
These forward-looking statements include statements about our plans, objectives,
strategies, expectations, intentions, future financial performance and other statements
that are not historical facts. We use words like anticipates,
believes, expects, future, intends and
similar expressions to mean that the statement is forward-looking. These statements
reflect our current views with respect to future events and are based on assumptions and
are subject to risks and uncertainties. Except as required by applicable law, including
the securities laws of the United States, we do not intend to update or revise any
forward-looking statements, whether as a result of new information, future events or
otherwise.

We
have based these forward-looking statements on our current expectations and projections
about future events. You should not unduly rely on these forward-looking statements, which
apply only as of the date of this annual report. Our actual results could differ
materially from those anticipated in the forward-looking statements for many reasons,
including the risks described in Item 3. Key InformationRisk
Factors.

We
prepare our consolidated financial statements in accordance with accounting principles
generally accepted in the United States, commonly referred to as U.S. GAAP. In accordance
with U.S. GAAP, we use the United States dollar as our reporting currency. In accordance
with FASB Statement of Financial Accounting Standards No. 144 Accounting for the
Impairment or Disposal of Long-Lived Assets, and following the distribution of the
shares held by Formula in Formula Vision Technologies (F.V.T.) Ltd., or Formula Vision, as
a dividend to Formulas shareholders, in December 2006 and the sale of our entire
shareholdings in BluePhoenix Solutions Ltd., or BluePhoenix, in June 2007, Formula
Visions and BluePhoenixs results of operations, assets and liabilities were
classified as attributed to discontinued operations and as a result, we have restated
certain figures in our financial statements relating to prior periods.

As
used in this annual report, references to dollar refer to the United States dollar and
references to NIS refer to New Israeli Shekels. References to the Israeli consumer price
index refer to the Israeli CPI.

As
used in this annual report, references to we, our,
ours and us refer to Formula Systems (1985) Ltd. and its
subsidiaries, unless otherwise indicated. References to Formula refer to
Formula Systems (1985) Ltd.

All
trademarks appearing in this annual report are the property of their respective holders.

2

---

---

# TABLE OF CONTENTS

|                                                                                      |   
|------------------------------------------------------------------------------------- | --
|
|
|
|
|ITEM 1. IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS                         | 4 
|ITEM 2. OFFER STATISTICS AND EXPECTED TIMETABLE                                       | 4 
|ITEM 3. KEY INFORMATION                                                               | 4 
|ITEM 4. INFORMATION ON THE COMPANY                                                    | 20
|ITEM 4A. UNRESOLVED STAFF COMMENTS                                                    | 38
|ITEM 5. OPERATING AND FINANCIAL REVIEW AND PROSPECTS                                  | 38
|ITEM 6. DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES                                    | 54
|ITEM 7. MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS                             | 65
|ITEM 8. FINANCIAL INFORMATION                                                         | 68
|ITEM 9. THE OFFER AND LISTING                                                         | 69
|ITEM 10. ADDITIONAL INFORMATION                                                       | 71
|ITEM 11. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS                  | 86
|ITEM 12. DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES                       | 87
|ITEM 13. DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES                              | 87
|ITEM 14. MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS AND USE OF PROCEEDS | 87
|ITEM 15. CONTROLS AND PROCEDURES                                                      | 87
|ITEM 16. [RESERVED]                                                                   | 88
|ITEM 16A. AUDIT COMMITTEE FINANCIAL EXPERT                                            | 88
|ITEM 16B. CODE OF ETHICS                                                              | 88
|ITEM 16C. PRINCIPAL ACCOUNTANT FEES AND SERVICES                                      | 89
|ITEM 16D. EXEMPTIONS FROM THE LISTING STANDARDS FOR AUDIT COMMITTEES                  | 90
|ITEM 16E. PURCHASES OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATED PURCHASERS      | 90
|ITEM 17. FINANCIAL STATEMENTS                                                         | 91
|ITEM 18. FINANCIAL STATEMENTS                                                         | 91
|ITEM 19. EXHIBITS                                                                     | 91
|                                                                                      |   

3

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# 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 tables present our consolidated statement of operations and balance sheet data
for the periods and as of the dates indicated. We derive the consolidated statement of
operations data for the years ended December 31, 2005, 2006 and 2007, and the balance
sheet data as at December 31, 2006 and 2007 from our consolidated financial statements
included elsewhere in this annual report. Our consolidated financial statements have been
audited by Ziv Haft registered public accounting firm, BDO member firm. The consolidated
income statement data for the years ended December 31, 2003 and 2004 and the consolidated
balance sheet data for the years ended December 31, 2003, 2004 and 2005 are derived
from our audited financial statements not included in this annual report. You should read
the selected consolidated financial data together with our consolidated financial
statements included elsewhere in this annual report. See Item 5. Operating and
Financial Review and Prospects.

4

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|                                           | Year Ended December 31,
|------------------------------------------ | -----------------------
|
|
|
|
|Consolidated Statement of Operations Data: |                        
|Revenues                                   |                        
|Cost of revenues                           |                        
|                                           |                        
|Gross profit                               |                        
|Research and development costs, net        |                        
|Selling, general and administrative        |                        
|expenses                                   |                        
|Restructuring and non-recurring costs      |                        
|                                           |                        
|Operating income                           |                        
|Financial expenses, net                    |                        
|Gain on realization of shareholdings, net  |                        
|Other income (expenses), net               |                        
|                                           |                        
|Income before taxes on income              |                        
|Taxes on income                            |                        
|Equity in gains (losses) of affiliated     |                        
|companies, net                             |                        
|Minority interest in earnings of           |                        
|subsidiaries, net                          |                        
|                                           |                        
|Income (loss) from continuing operations   |                        
|Income (loss) from discontinued            |                        
|operations, net                            |                        
|                                           |                        
|Net income                                 |                        
|Earnings (losses) per share generated      |                        
|from continuing operations                 |                        
|Basic                                      |                        
|Diluted                                    |                        
|Earnings (losses) per share generated      |                        
|from discontinued operations               |                        
|Basic                                      |                        
|Diluted                                    |                        
|Earnings per share:                        |                        
|Basic earnings                             |                        
|Diluted earnings                           |                        
|Weighted average number of shares          |                        
|outstanding:                               |                        
|Basic                                      |                        
|Diluted                                    |                        

|                                 | As of December 31,
|-------------------------------- | ------------------
|
|
|
|
|Consolidated Balance Sheet Data: |                   
|Total assets                     |                   
|Total liabilities                |                   
|Shareholders' equity             |                   
|                                 |                   

5

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---

# Dividends

In
April 2008, Formula distributed to its shareholders a cash dividend of approximately $0.76
per share. The aggregate amount distributed by Formula was approximately $10 million.

In
December 2006, Formula distributed to its shareholders a dividend consisting of 36,696,000
shares of Formula Vision held by Formula and representing approximately 57% of the
outstanding share capital of Formula Vision. Formula Vision shares were distributed at a
ratio of 2.78 shares of Formula Vision for every one outstanding ordinary share of
Formula, prior to withholding taxes.

In
June 2005, Formula distributed to its shareholders a cash dividend of approximately $4 per
share. The aggregate amount distributed by Formula was approximately $50.2 million.

Under
Formulas dividend policy adopted by its board of directors, sums that are not
planned to be used for investments in the near future, will be distributed to the
shareholders as a cash dividend, to the extent that our performance allows such
distribution.

Cash
dividends may be declared and paid in New Israeli Shekels or dollars. Dividends to the
holders of the American Depositary Receipts, or ADRs, are paid by the depositary of the
ADRs, for the benefit of owners of ADRs. If the dividend is declared and paid in NIS, the
NIS amount is converted into dollars by the depositary of the ADRs.

Dividends
paid by an Israeli company to shareholders residing outside Israel, holding less than 10%
of the outstanding share capital of the company, are generally subject to withholding of
Israeli income tax at a rate of up to 20%. Shareholders holding 10% or more of our
outstanding share capital shall generally be subject to withholding of Israeli income tax
at a rate of up to 25% on dividends. Such tax rates apply unless a lower rate is provided
in a treaty between Israel and the shareholders country of residence.

|B. | Capitalization
and Indebtedness
|-- | -------------------------------

Not applicable.

|C. | Reasons
for the Offer and Use of Proceeds
|-- | -----------------------------------------

Not applicable.

|D. | Risk
Factors
|-- | ------------

Our
business, operating results and financial condition could be seriously harmed due to any
of the following risks. Additional risks and uncertainties that we are not aware of or
that we currently believe are immaterial may also adversely affect our business, financial
condition, results of operations and our liquidity. In addition, the trading price of our
ordinary shares could decline due to any of these risks, and you may lose all or part of
your investment.

6

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Risks Relating to Our
Business

We may experience significant
fluctuations in our annual and quarterly results, which makes it difficult for investors
to make reliable period-to-period comparisons and may contribute to volatility in the
market price for our ordinary shares and American Depositary Shares.

Our
quarterly and annual revenues, gross profits and results of operations have fluctuated
significantly in the past, and we expect them to continue to fluctuate significantly in
the future. The following events may cause fluctuations:

| |  | acquisitions
and dispositions of companies and consolidation of our subsidiaries;
| | - | ---------------------------------------------------------------------------------

| |  | the
size, time and recognition of revenue from significant contracts;
| | - | ---------------------------------------------------------------------

| |  | timing
of product releases;
| | - | ---------------------------

| |  | timing
of contracts;
| | - | --------------------

| |  | timing
of completion of specified milestones and delays in implementation;
| | - | --------------------------------------------------------------------------

| |  | changes
in the proportion of service and license revenues;
| | - | ----------------------------------------------------------

| |  | price
and product competition;
| | - | ------------------------------

| |  | increases
in selling and marketing expenses, as well as other operating expenses;
| | - | ---------------------------------------------------------------------------------

| |  | currency
fluctuations; and
| | - | --------------------------

| |  | consolidation
of our customers.
| | - | -------------------------------

A
substantial portion of our expenses, including most product development and selling and
marketing expenses, must be incurred in advance of when revenue is generated. If our
projected revenue does not meet our expectations, we are likely to experience an even
larger shortfall in our operating profit relative to our expectations. The gross margins
of our subsidiaries also will vary both among themselves and over time. As a result,
changes in the revenue mix from these subsidiaries may affect quarterly operating results.
In addition, we may derive a significant portion of our net income from transactions which
involve equity issuances by our subsidiaries, the sale of equity securities of our
subsidiaries or the sale of proprietary software technology. These events do not occur on
a regular basis and their timing is difficult to predict. As a result, we believe that
period-to-period comparisons of our historical results of operations are not necessarily
meaningful and that you should not rely on them as an indication for future performance.
Also, it is possible that our quarterly and annual results of operations may be below the
expectations of public market analysts and investors. If this happens, the price of our
ordinary shares will likely decrease.

7

---

---

If capital spending on information
technology, or IT, slows down, our business could be seriously harmed.

We
are affected by global economic changes, in particular trends in capital spending in the
IT sector. Changes in purchasing patterns in the IT industry directly affect our operating
results. Economic changes such as the U.S. subprime mortgage loan crisis and the economic
instability caused by the rise in oil prices, are affecting companies willingness,
in both the U.S. and in Europe, to make capital spending on IT projects. In addition, many
of our customers are in the financial sector. A slow-down in the financial markets may
affect these customers willingness to make capital spending on IT projects. We
cannot know whether IT capital spending and investment in IT projects will continue in the
future at the same level, or how the economic conditions will affect our business.
Accordingly, we cannot assure you that we will be able to increase our revenues or keep
our revenues at the same level as in 2007.

Our success depends upon the
development and maintenance of strategic alliances.

We
established relationships with strategic partners to provide international marketing
presence and name recognition, as well as the resources necessary to implement many of our
IT services. We are dependent upon our strategic partners for the marketing and selling of
certain of our proprietary software solutions. If we cannot maintain our existing
relationships with these partners or if we fail to establish effective, long-term
relationships with additional partners, or if our partners enter into relationships with
our competitors, our ability to market our proprietary software solutions in international
markets may be limited. If this happens, our growth, if any, might be delayed or
slowed-down. As a result, our business, financial condition, and results of operations
could be seriously harmed.

If our products fail to compete
successfully with those of our competitors, we may have to reduce the prices of our
products, which in turn, may adversely affect our business.

We
face competition, both in Israel and internationally, from a variety of companies,
including companies with significantly greater resources than us who are likely to enjoy
substantial competitive advantages, including:

| |  | longer
operating histories;
| | - | ---------------------------

| |  | greater
financial, technical, marketing and other resources;
| | - | ------------------------------------------------------------

| |  | greater
name recognition;
| | - | -------------------------

| |  | well-established
relationships with our current and potential clients; and
| | - | --------------------------------------------------------------------------

| |  | a
broader range of products and services.
| | - | -----------------------------------------

8

---

---

As a result, they may be able to
respond more quickly to new or emerging technologies or changes in customer requirements.
They may also benefit from greater purchasing economies, offer more aggressive product and
service pricing or devote greater resources to the promotion of their products and
services. Current and potential competitors have established or may establish cooperative
relationships among themselves or with third parties to increase such competitors
ability to successfully market their tools and services. We also expect that competition
will increase as a result of consolidation within the industry. We also face additional
competition as we continue to penetrate international markets. As a result, we cannot
assure you that the products and solutions we offer will compete successfully with those
of our competitors.

We
may be unable to differentiate our tools and services from those of our competitors or
successfully develop and introduce new tools and services that are less costly than, or
superior to, those of our competitors. This could have a material adverse effect on our
ability to compete.

Furthermore,
several software development centers worldwide offer software development services at
lower prices than we do. Due to the intense competition in the markets in which we
operate, software products prices may fluctuate significantly. As a result, we may have to
reduce the prices of our products, which in turn, may adversely affect our business.

If we fail to compete for
acquisitions and investments, we may be unable to grow.

As
part of our strategy, we intend to pursue acquisitions of, and investments in, other
companies. If and when acquisition or investment opportunities occur, we expect to compete
for these opportunities with other established and well-capitalized entities. We cannot
assure you that we will be able to locate potential acquisition or investment
opportunities in Israel or internationally on terms which are favorable to us. If we fail
to consummate further acquisitions or investments in the future our ability to grow may be
harmed.

Any future acquisitions of
companies or technologies may distract our management and disrupt our business.

Our
strategy includes selective acquisitions of, and investments in, companies offering
products and services suitable for integration into our business. We may acquire or make
investments in complementary businesses, technologies, services or products if appropriate
opportunities arise. We may engage in discussions and negotiations with companies about
our acquiring or investing in those companies businesses, products, services or
technologies. We cannot assure you that we will be able to identify future suitable
acquisition or investment candidates, or if we do identify suitable candidates, that we
will be able to make the acquisitions or investments on commercially acceptable terms or
at all. If we acquire or invest in another company, or if any of our subsidiaries acquires
control in another subsidiary or affiliate, the acquirer could have difficulty
assimilating that companys personnel, operations, technology or products and service
offerings into its own. The key personnel of the acquired company may decide not to work
for the acquirer. These difficulties could disrupt our ongoing business, distract our
management and employees, increase our expenses and adversely affect our results of
operations. We may incur indebtedness or issue equity securities to pay for any future
acquisitions. The issuance of equity securities could be dilutive to our existing
shareholders.

9

---

---

We
intend to pursue acquisitions outside of Israel as part of our expansion strategy. These
acquisitions, as well as any future acquisitions of companies located outside of Israel,
would pose additional risks, including monitoring a management team from a great distance
and integrating a potentially different business culture. Our failure to successfully
integrate these new businesses could harm our business. In addition, the investigation of
acquisition candidates outside of Israel involves higher costs than those associated with
pursuing domestic acquisitions, and we cannot assure you that these investigations will
result in transactions.

Certain amounts have been
allocated to goodwill on our balance sheet as a result of acquisitions made by us from
time to time and should it become necessary to write-off a material part of this, our
results of operations could be materially adversely affected.

We
acquire businesses from time to time and as a result, certain amounts have been allocated
to goodwill on our balance sheet. Goodwill and other intangible assets that have
indefinite useful lives are tested at least annually for impairment. Should a test
disclose that there has been a permanent impairment of a material part of the value of
goodwill, it would be necessary to write-off such amount, and this could materially
adversely affect our results of operations.

If we fail to raise capital for
our subsidiaries, we may be required to borrow money on unfavorable terms.

Our
business strategy involves raising capital for our subsidiaries through public or private
offerings. Our ability to raise capital for our subsidiaries depends upon market and other
conditions which are beyond our control. If we fail to raise capital for our subsidiaries,
it may hinder their growth. We may therefore be required to seek alternative capital
raising methods, including borrowing money on terms which are not favorable to us. In the
last few years, due to difficulties we encountered in raising capital for our
subsidiaries, we were required to borrow monies from banks. Difficulties in raising
capital on favorable terms, may materially and adversely affect our business, operating
results and financial condition.

The terms of our credit facilities
contain a number of restrictive covenants which, if breached, could result in acceleration
of our obligation to repay our debt.

The
loan agreements of our subsidiaries contain a number of conditions and limitations on the
way in which they can operate their business, including limitations on their ability to
raise debt and sell or acquire assets. These loan agreements also contain various
covenants which require them to maintain certain financial ratios related to
shareholders equity and operating results that are customary for companies of
comparable size. These limitations and covenants may force us to pursue less than optimal
business strategies or forego business arrangements which could have been financially
advantageous to us or to our shareholders.

10

---

---

Marketing our products and
services in international markets may require increased expenses and greater exposure to
risks that we may not be able to successfully address.

We
intend to continue to focus our efforts on selling proprietary software solutions in
international markets. We expect to continue devoting significant resources to these
efforts. If we are unable to continue achieving market acceptance for our solutions or
otherwise continue to successfully penetrate international markets, our business will be
harmed. In 2006 and 2007, we received approximately 37% and 35% of our total revenues,
respectively, from customers located outside of Israel. The expansion of our existing
operations and entry into additional international markets will require significant
management attention and financial resources. We are subject to a number of risks
customary for international operations, including:

| |  | changing
product and service requirements in response to the formation of               economic
and marketing unions, including the European Union;
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------

| |  | economic
or political changes in international markets;
| | - | -------------------------------------------------------

| |  | greater
difficulty in accounts receivable collection and longer collection periods;
| | - | -----------------------------------------------------------------------------------

| |  | unexpected
changes in regulatory requirements;
| | - | ----------------------------------------------

| |  | difficulties
and costs of staffing and managing foreign operations;
| | - | -------------------------------------------------------------------

| |  | the
uncertainty of protection for intellectual property rights in some countries;
| | - | ---------------------------------------------------------------------------------

| |  | multiple
and possibly overlapping tax structures; and
| | - | -----------------------------------------------------

| |  | currency
and exchange rate fluctuations.
| | - | ----------------------------------------

If we fail to address the strain
on our resources caused by changes in our company, we will be unable to effectively manage
our business.

Corporate
organizational changes, as well as growth of our business, if any, have placed and will
continue to place a strain on our personnel and resources. Our ability to manage any
future changes or growth, depends on our ability to continue to implement and improve our
operational, financial and management information control and reporting systems on a
timely basis and to expand, train, motivate and manage our work force. If we cannot
respond effectively to changing business conditions, our business, financial condition and
results of operations could be materially adversely affected.

11

---

---

If we are unable to attract, train
and retain qualified personnel, we may not be able to achieve our objectives and our
business could be harmed.

In
order to achieve our objectives, we may need to hire additional qualified software,
administrative, operational, sales and technical support personnel. The process of
attracting, training and successfully integrating qualified personnel into our operations
can be lengthy and expensive. We may not be able to compete effectively for the personnel
we need. Our future success depends on our ability to absorb and retain senior employees
and to attract, motivate and retain highly qualified professional employees. We expect to
recruit most of our software and systems personnel in Israel. As part of our growth
strategy, we developed offshore centers in India. We hired professional consultants for
these development centers, leveraging the lower employer costs that existed in this
country. Recently, professional work in India became more expensive and professional fees
may continue to increase in the future. We cannot assure you that our offshore facilities
will be profitable. In addition, our operations are dependent on the efforts of certain
key management. Any loss of members of senior management or key technical personnel, or
any failure to attract or retain highly qualified employees as needed, could materially
adversely affect our business.

If we fail to estimate accurately
the costs of fixed-price contracts, we may incur losses.

We
derive a portion of our revenues from engagements on a fixed-price basis. We price these
commitments upon estimates of future costs. We bear the risk of faulty estimates and cost
overruns in connection with these commitments. Our failure to accurately estimate the
resources required for a fixed-price project, to accurately anticipate potential wage
increases, or to complete our contractual obligations in a manner consistent with the
project plan could materially adversely affect our business, operating results, and
financial condition. In addition, we may agree to a price before the design specifications
are finalized, which could result in a fixed price that is too low, resulting in lower
margins or losses to us.

If our tools or solutions do not
function efficiently, we may incur additional expenses.

In
the course of providing our software solutions, we conduct testing to detect the existence
of failures, errors and bugs. In addition, we have instituted a quality assurance
procedure for correcting errors and bugs in our tools. The amount of failures, errors and
bugs detected to date, and the cost of correcting them, have not been significant.
However, if our solutions fail to function efficiently or if errors or bugs are detected
in our tools, we might incur significant expenditures in an attempt to remedy the problem.
The consequences of failures, errors, and bugs could have a material adverse effect on our
business, operating results, and financial condition.

If we fail to satisfy our
customers expectations regarding our solutions, our contracts may be cancelled and
we may be the subject of damages claims.

In
the event that we fail to satisfy our customers expectations from the results of the
implementation of our solutions, or if we fail to timely deliver our solutions to our
customers, these customers may suffer damages. When and if this occurs, customers may have
the ability to cancel our contracts. Any cancellation of a contract could cause us to
suffer damages, since we might not be paid for costs that we incurred in performing
services prior to the date of cancellation. In addition, from time to time we may be
subject to claims as a result of not delivering our products on time or in a satisfactory
manner. Such claims may lead to material damages.

12

---

---

If we are unable to accurately
predict and respond to market developments or demands, our business will be adversely
affected.

The
IT business is characterized by rapidly evolving technology and methodologies. This makes
it difficult to predict demand and market acceptance for our services and products. In
order to succeed, we need to adapt the products and services we offer to technological
developments and changes in customer needs. We cannot guarantee that we will succeed in
enhancing our products and services or developing or acquiring new products and services
that adequately address changing technologies and customer requirements. We also cannot
assure you that the products and services we offer will be accepted by customers. If our
products and services are not accepted by customers, our future revenues and profitability
will be adversely affected. Changes in technologies, industry standards, the regulatory
environment, customer requirements and new product introductions by existing or future
competitors could render our existing products and services obsolete and unmarketable, or
require us to enhance our current products or develop new products. This may require us to
expend significant amounts of money, time and other resources to meet the demand. This
could strain our personnel and financial resources.

If we are unable to retain control
in our subsidiaries, we would cease to consolidate them and our operating results may
fluctuate significantly.

We
currently hold a controlling interest in our subsidiaries through our direct equity
holdings. From time to time, if and when required, we enter into voting agreements with
other shareholders of the companies, in order to retain control of our subsidiaries. As a
result of our controlling interests in the subsidiaries, we consolidate their operating
results with ours. If we are unable to maintain a controlling interest in our
subsidiaries, as a result of equity issuances by subsidiaries, failure to reach voting
agreements or otherwise, we would cease to consolidate the operating results of these
subsidiaries. This may result in significant fluctuations of our consolidated operating
results.

We are exposed to significant
claims for damage caused to our customers information systems.

Some of the products and services we provide involve key aspects of customers
information systems. These systems are frequently critical to our customers
operations. As a result, our customers have a greater sensitivity to failures in these
systems than do customers of other software products generally. If a customers
system fails during or following the provision of products or services by us, or if we
fail to provide customers with proper support for our software products, we are exposed to
the risk of a claim for substantial damages being filed against us, regardless of our
responsibility for the failure. When possible, we limit our liability under our product
and service contracts. We cannot guarantee that these limitations of liability, if any,
would be sufficient to protect us against legal claims. We maintain general liability and
professional liability insurance coverage. However, we cannot assure you that our
insurance coverage will be sufficient to cover one or more large claims, or that the
insurer will not disclaim coverage as to any future claim. If we lose one or more, large
claims against us that exceed available insurance coverage, our business, operating
results and financial condition may be materially adversely affected. In addition, the
filing of legal claims against us in connection with contract liability may cause us
negative publicity and damage to our reputation.

13

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If third parties assert claims of
infringement against us, we may suffer substantial costs and diversion of
managements attention.

Substantial
litigation over intellectual property rights exists in the software industry. We expect
that software products may be increasingly subject to third-party infringement claims as
the functionality of products in different industry segments overlaps. We cannot predict
whether third parties will assert claims of infringement against us. In addition, our
employees and contractors have access to software licensed by us from third parties. A
breach of the non-disclosure undertakings by any of our employees or contractors may lead
to a claim of infringement against us. Any claim, with or without merit, could be
expensive and time-consuming to defend, and would probably divert our managements
attention and resources. In addition, such a claim if submitted may require us to enter
into royalty or licensing agreements to obtain the right to use a necessary product or
component. Such royalty or licensing agreements, if required, may not be available to us
on acceptable terms, if at all.

A
successful claim of product infringement against us and our failure or inability to
license the infringed or similar technology could have a material adverse effect on our
business, financial condition and results of operations.

We may be unable to adequately
protect our proprietary rights, which may limit our ability to compete effectively.

Our
success and ability to compete are substantially dependent upon our internally developed
technology. Substantially all of our intellectual property consists of proprietary or
confidential information that is not subject to patent or similar protection. In general,
we have relied on a combination of technical leadership, trade secret, copyright and
trademark law and nondisclosure agreements to protect our proprietary know-how.
Unauthorized third parties may attempt to copy or obtain and use the technology protected
by those rights. Any infringement of our intellectual property could have a material
adverse effect on our business, financial condition and results of operations. Policing
unauthorized use of our products is difficult and costly, particularly in countries where
the laws may not protect our proprietary rights as fully as in the United States. We have
placed, and in the future may place, certain of our software in escrow. The software may,
under specified circumstances, be made available to our customers. From time to time, we
also provide our software directly to customers. This may increase the likelihood of
misappropriation or other misuse of our software.

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Our largest shareholder, Emblaze
Ltd., owns the majority of our ordinary shares and controls the outcome of matters that
require shareholder approval.

Emblaze
Ltd., or Emblaze, owns approximately 50.1% of our outstanding ordinary shares. Therefore,
Emblaze has the power to control the outcome of those matters requiring shareholder
approval, including the election of directors and approval of significant corporate
transactions. This share ownership may have the effect of delaying or preventing a change
in control. In addition, potential conflicts of interest may arise in the event that we
enter into agreements or transactions with affiliates of Emblaze. Although Israeli law
imposes certain procedures (including shareholder approval) for approval of certain
related party transactions, we cannot assure you that these procedures will eliminate the
possible detrimental effects of these conflicts of interest. If certain transactions are
not approved in accordance with required procedures under applicable Israeli law, these
transactions may be void or voidable.

Fluctuations in foreign currency
values affect the prices of our products, which in turn may affect our business and
results of operations.

A
significant portion of our worldwide sales are currently denominated in dollars and euros,
while a substantial portion of our expenses, principally salaries and related personnel
expenses, are in New Israeli Shekels (NIS). As a result, a decrease in the value of the
dollar or euro relative to other foreign currencies, in particular the NIS would increase
our operating costs and, therefore, could adversely affect our results and harm our
competitive position in the markets. In recent periods, the value of the dollar and the
euro was decreased significantly in relation to the NIS. We cannot know whether this trend
would continue in the future. If the dollar or euro value in relation to the NIS continues
to decrease, our operating costs would increase, and in turn, our results of operation may
be harmed. To date, we have not engaged in significant hedging transactions. In the
future, we may enter into currency hedging transactions to decrease the risk of financial
exposure from fluctuations in the exchange rate of the dollar or euro against the NIS.
However, we cannot assure you that these measures will adequately protect us from material
adverse effects arising from the impact of inflation in Israel. For additional information
relating to the exchange rates between different relevant currencies, see Item 5.
Operating and Financial Review and ProspectsOverviewOur Functional and
Reporting Currency.

We may be adversely affected if
the market prices of our publicly traded subsidiaries decrease.

A
significant portion of our assets is comprised of equity securities of publicly and
non-publicly traded companies. Our publicly traded subsidiaries are Magic Software
Enterprises Ltd., Matrix IT Ltd. and Sapiens International Corporation N.V. The stock
prices of these publicly traded companies have been extremely volatile, and have
experienced fluctuations due to market conditions and other factors which are beyond our
control. Fluctuations in the market price and valuations of our holdings in these
companies may affect the value of our assets. In addition, the stock prices of many
technology companies fluctuate significantly for reasons that may be unrelated to
operating results. If the value of our assets decreases significantly as a result of the
above, our business, operating results and financial condition, may be materially and
adversely affected.

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Risks Related to our
Traded Securities

The market price of our ordinary shares
and American Depositary Shares may be volatile and you may not be able to resell your
shares at or above the price you paid, or at all.

The
stock market in general has experienced during recent years extreme price and volume
fluctuations. The market prices of securities of technology companies have been extremely
volatile, and have experienced fluctuations that have often been unrelated or
disproportionate to the operating performance of those companies. These broad market
fluctuations could adversely affect the market price of our ordinary shares and American
Depositary Shares, or ADSs.

The
high and low market price of our ordinary shares traded on the Tel Aviv Stock Exchange, or
the TASE, under the symbol FORT, and the high and low market price of our ADSs
traded on the Nasdaq Global Market, under the symbol FORTY during each of the
last three years, are summarized in the table below:

| |      | Nasdaq Global Market
In $ | TASE
In NIS
| | ---- | ------------------------- | -----------
|
|
|
|
| | 2007 |                           |            
| | 2006 |                           |            
| | 2005 |                           |            
| |      |                           |            

The
market price of the ordinary shares and the ADSs may fluctuate substantially due to a
variety of factors, including:

| |  | any
actual or anticipated fluctuations in our or our competitors' quarterly revenues and
              operating results;
| | - | -------------------------------------------------------------------------------------------------------------------------

| |  | shortfalls
in our operating results from levels forecast by securities analysts;
| | - | --------------------------------------------------------------------------------

| |  | public
announcements concerning us or our competitors;
| | - | ------------------------------------------------------

| |  | results
of integrating investments and acquisitions;
| | - | ----------------------------------------------------

| |  | the
introduction or market acceptance of new service offerings by us or our competitors;
| | - | ----------------------------------------------------------------------------------------

| |  | changes
in product pricing policies by us or our competitors;
| | - | -------------------------------------------------------------

| |  | changes
in security analysts' financial estimates;
| | - | --------------------------------------------------

16

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| |  | changes
in accounting principles;
| | - | ---------------------------------

| |  | sales
of our shares by existing shareholders; and
| | - | -------------------------------------------------

| |  | the
loss of any of our key personnel.
| | - | -------------------------------------

In
addition, economic, political and market conditions and military conflicts and in
particular, those specifically related to the State of Israel, may affect the market price
of our shares and ADSs.

Future sales of our shares in the
public market or issuances of additional securities could cause the market price for our
ordinary shares and ADSs to fall.

As
of June 20, 2008, we had 13,200,000 ordinary shares outstanding, of which 315,542 were
represented by ADSs. Of the 13,200,000 shares outstanding, 6,613,400 shares are held by
Emblaze, our controlling shareholder. If a large number of our ordinary shares is sold in
a short period, the price of our ordinary shares would likely decrease.

Our shares are traded on more than
one market and this may result in price variations.

Our
ordinary shares are traded on the TASE and our ADRs are traded on the NASDAQ Global
Market. Trading in our ordinary shares and ADRs on these markets takes place in different
currencies (dollars on the NASDAQ Global Market and NIS on the TASE), and at different
times (resulting from different time zones, different trading days and different public
holidays in the United States and Israel). The trading prices of our ordinary shares and
ADRs on these two markets may differ due to these and other factors. Any decrease in the
trading price of our ordinary shares or ADRs, as applicable, on one of these markets could
cause a decrease in the trading price on the other market.

Our United States investors could
suffer adverse tax consequences if we are characterized as a passive foreign investment
company.

Although
we do not believe that we were a passive foreign investment company, or PFIC, for U.S.
federal income tax purposes during 2007, we cannot assure you that we will not be treated
as a passive foreign investment company in 2008 or in future years. We would be a passive
foreign investment company if 75% or more of our gross income in a taxable year is passive
income. We would also be a passive foreign investment company if at least 50% of our
assets in a taxable year produce, or are held for the production of, passive income.
Passive income includes interest, dividends, royalties, rents and annuities. If we are or
become a passive foreign investment company, United States investors could be subject to
adverse tax consequences, including having gain realized on the sale of our ordinary
shares or ADSs being treated as ordinary income, as opposed to capital gain income, and
having potentially punitive interest charges apply to such sale proceeds. Rules similar to
those applicable to gains derived from the disposition of our ordinary shares also apply
to certain excess distributions. A decline in the value of our ordinary shares
or ADSs may result in our being a PFIC. United States investors should consult with their
own tax advisors with respect to the United States tax consequences of investing in our
ordinary shares.

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For
a discussion of how we might be characterized as a PFIC and related tax consequences, see
Item 10. Additional InformationTaxationUnited States Federal Income Tax
Considerations.

Risks Relating to
Operations in Israel

Political, economic, and military
conditions in Israel could negatively impact our business.

Our
headquarters and principal research and development facilities are located in Israel.
Although we generated approximately 35% of our revenues in 2007 from international
markets, we are, nonetheless, directly influenced by the political, economic and military
conditions affecting Israel. Over the past several decades, a number of armed conflicts
have occurred between Israel and its Arab neighbors. Major hostilities involving Israel or
the interruption or curtailment of trade between Israel and its present trading partners
could have a material adverse effect on our business, operating results, and financial
condition. Since September 2000, there has been a high level of violence between Israel
and the Palestinians. Hamas, an Islamist movement responsible for many attacks, including
missile strikes against Israelis, won the majority of the seats in the Parliament of the
Palestinian Authority in January 2006 and took control of the entire Gaza Strip, by force,
in June 2007. These developments have further strained relations between Israel and the
Palestinian Authority. Further, in the summer of 2006, Israel engaged in a war with
Hezbollah, a Lebanese Islamist Shiite militia group, which involved thousands of missile
strikes and disrupted most day-to-day civilian activity in northern Israel. Any armed
conflicts, terrorist activities, or political instability in the region, may affect
Israels security, foreign relations, and the stability of the region. Increased
hostilities, future armed conflicts, political developments in other states in the region,
or continued or increased terrorism could make it more difficult for us to conduct our
operations in Israel, which could increase our costs and adversely affect our financial
results. Major hostilities involving Israel, including as a result of the military
conflicts between the Fatah and Hamas in Gaza Strip, Judea and Samaria, or the
interruption or curtailment of trade between Israel and its present trading partners could
have a material adverse effect on our business, operating results and financial condition.
Furthermore, several countries restrict business with Israeli companies. In addition,
nonexempt male adult citizens of Israel, including some of our officers and employees, are
obligated to perform military reserve duty until the age of 40 or 45 depending on their
function in the army, and are subject to being called for active duty under emergency
circumstances. While we have operated effectively under these requirements since our
incorporation, we cannot predict the full impact of such conditions on it 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 may be adversely affected.

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The tax benefits available to us
from government programs may be discontinued or reduced at any time, which would likely
increase our taxes.

Certain
of our subsidiaries received grants in the past and receive tax benefits under Israeli
government programs, particularly as a result of the Approved Enterprise
status of certain operations in Israel. Approved Enterprise status is granted
by the Israeli Investment Center of the Ministry of Industry and Trade and entitles the
grantee to a variety of tax incentives. The incentives awarded to certain of our
subsidiaries include reduced tax rates and a tax holiday. Subject to compliance with
applicable requirements, the portion of our subsidiarys undistributed income derived
from our Approved Enterprise programs was exempt from income tax during the
first two years, followed by a five year tax reduced tax rate of 25% instead of 27% on
income derived from Approved Enterprise investment programs. In order to
qualify for these incentives, the Approved Enterprise is required to provide
minimum paid-in-capital (30% of the investment), to show an increase in its export
activities, and to meet other general investing criteria. As of June 20, 2008, our
subsidiaries have met those criteria and received tax benefits from their Approved
Enterprise programs, as presented in Note 14 to our financial statements. To
maintain the eligibility for these programs and benefits, we must meet the conditions
mentioned above. We cannot assure you that these programs and tax benefits will continue
at the same level in the future. If these tax benefits and programs are terminated or
reduced, we could pay increased taxes in the future, which could decrease our profits.

It may be difficult to serve
process and enforce judgments against our directors and officers in Israel.

We
are organized under the laws of the State of Israel. All of our executive officers and
directors are nonresidents of the United States, and a substantial portion of our assets
and the assets of these persons are located outside the United States. Therefore, it may
be difficult to:

| |  | effect
service of process within the United States on us or any of our executive officers or
         directors;
| | - | ----------------------------------------------------------------------------------------------------------------

| |  | enforce
court judgments obtained in the United States including those predicated upon the civil
liability provisions of the United States federal securities laws, against us or against
any of our executive officers or directors, in the United States or Israel; and
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | bring
an original action in an Israeli court against us or against any of our executive
officers or directors to enforce liabilities based upon the United States federal
securities laws.
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Provisions of Israeli law may
delay, prevent or make more difficult an acquisition of us.

The
Israeli Companies Law generally requires that a merger be approved by the board of
directors and a majority of the shares voting on the proposed merger. For purposes of the
shareholder vote, unless a court rules otherwise, the merger will not be deemed approved
if shares representing a majority of the voting power present at the shareholders meeting,
and which are not held by the other party to the merger (or by any person who holds 25% or
more of the shares or the right to appoint 25% or more of the directors of the other party
or its general manager) have voted against the merger. Upon the request of any creditor of
a party to the proposed merger, a court may delay or prevent the merger if it concludes
that there is a reasonable concern that, as a result of the merger, the surviving company
will be unable to satisfy the obligations of the surviving company. Finally, a merger may
generally not be completed unless at least (i) 50 days have passed since the filing of a
merger proposal signed by both parties with the Israeli Registrar of Companies; and (ii)
30 days have passed since the merger was approved by the shareholders of each of the
parties to the merger. Also, in certain circumstances an acquisition of shares in a public
company must be made by means of a tender offer. Lastly, Israeli tax law treats some
acquisitions, such as stock-for-stock exchanges between an Israeli company and a foreign
company, less favorably than U.S. tax laws. These provisions of Israeli corporate and tax
law may have the effect of delaying, preventing or make more difficult an acquisition of
or merger with us, which may adversely affect its ability to engage in a business
combination and could depress our share price.

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As a foreign private issuer whose
shares are listed on the NASDAQ Global Market, we may follow certain home country
corporate governance practices instead of certain NASDAQ requirements.

As
a foreign private issuer whose shares are listed on the NASDAQ Global Market, we are
permitted to follow certain home country corporate governance practices instead of certain
requirements of the NASDAQ Marketplace Rules. A foreign private issuer that elects to
follow a home country practice instead of such requirements, must submit to NASDAQ in
advance a written statement from an independent counsel in such issuers home country
certifying that the issuers practices are not prohibited by the home countrys
laws. In addition, a foreign private issuer must disclose in its annual reports filed with
the Securities and Exchange Commission, or the SEC, or on its website each such
requirement that it does not follow and describe the home country practice followed by the
issuer instead of any such requirement. As a foreign private issuer listed on the NASDAQ
Global Market, we may follow home country practice with regard to, among other things,
composition of our board of directors, director nomination procedure, compensation of
officers, and quorum at shareholders meetings. In addition, we may follow our home
country law, instead of the NASDAQ Marketplace Rules, which require that we obtain
shareholder approval for certain dilutive events, such as for the establishment or
amendment of certain equity based compensation plans, an issuance that will result in a
change of control of the company, certain transactions other than a public offering
involving issuances of a 20% or more interest in the company and certain acquisitions of
the stock or assets of another company.

# ITEM 4. INFORMATION ON
THE COMPANY

|A. | History
and Development of the Company
|-- | --------------------------------------

Both
our legal name and our commercial name is Formula Systems (1985) Ltd. We were incorporated
in Israel on April 2, 1985. We maintain our principal executive offices at 3 Abba Eban
Boulevard, Herzlia 46725, Israel and our telephone number is 011-972-9-959-8800. Our agent
in the United States is Corporation Service Company and its address is 2711 Centerville
Road, Suite 400, Wilmington, DE 19808. In 1991, we completed our initial public offering
of ordinary shares on the Tel Aviv Stock Exchange, or the TASE. In October 1997, we
completed the listing of our ADSs on the NASDAQ Global Market.

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Since
our inception, we have acquired controlling interest and have invested in companies which
are engaged in the IT solutions and services business. We, together with our subsidiaries
and affiliates, are known as the Formula Group.

We
have adopted a strategy of seeking opportunities to realize gains through the selective
sale of investments and minority interest in our subsidiaries and affiliates to outside
investors. We believe that this strategy provides us with capital to support the growth of
our subsidiaries, as well as increasing shareholder value. We expect to continue to
develop and enhance the products, services and solutions of our subsidiaries, and to
continue to pursue additional acquisitions of, or investments in, companies that provide
IT services and proprietary software solutions.

Capital Expenditures and
Divestitures

Certain
of our investment and financing activities are described below. For additional information
relating to our investment and financing activities during 2006 and 2007, see Item
5. Operating and Financial Review and ProspectsLiquidity and Capital
Resources.

Sale
of AAOD. On December 30, 2007, our subsidiary Magic sold its wholly-owned subsidiary,
Advanced Answers on Demand Holding Corporation, or AAOD, a Florida corporation that
develops and markets application software targeted at the long-term care industry to
Fortissimo Capital for $17 million. Fortissimo paid to Magic $1 million of the sale price
in December 2007 and the remaining $16 million in the beginning of 2008. In addition, as
part of the transaction, Magic entered into a three-year license agreement with AAOD
according to which AAOD will continue to sell Magics products, as an OEM partner, in
consideration for $3 million, to be paid quarterly over the three years starting in 2008.

Debenture
Offering by Matrix.On August 19, 2007, our subsidiary, Matrix IT Ltd., or Matrix,
completed an offering of debentures in an aggregate principal amount of approximately $62
million (NIS 250 million). The debentures were sold to institutional and other investors
in Israel. The debentures bear an interest at an annual rate of 5.15%. The principal will
be paid in four equal installments on December 31 of each of the years 2010 through 2013.
The principal and interest are linked to the Israeli consumer price index. On February 21,
2008, Matrix listed the debentures for trading on the TASE.

Sale
of BluePhoenix shares. On June 20, 2007 we completed the sale of an aggregate of
8,038,526 shares of our subsidiary BluePhoenix Solutions Ltd., or BluePhoenix,
constituting our entire holdings in BluePhoenix, to international institutional investors
for aggregate consideration of approximately $64 million.

Private
Placement by Sapiens.In June 2007, our subsidiary, Sapiens International Corporation
N.V., or Sapiens, entered into a private placement investment transaction with several
institutional investors, private investors and Formula for an aggregate gross investment
amount of $20 million (excluding finders fees and out of pocket expenses), $6.5
million of which was by Formula.  Sapiens issued to the investors an aggregate of
6,666,667 common shares (of which 2,166,666 common shares were issued to Formula), at a
price per share of $3.00 which reflected a premium of approximately 25% above the trading
price of Sapiens common shares (as of the date Sapiens board of directors
approved the investment).  The investors were all non-US persons, and the common
shares were issued to the investors pursuant to Regulation S. As a result, the issuance of
the common shares to the investors was exempt from registration under the Securities Act
of 1933, as amended, referred to as the Securities Act.

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Spin-Off
of Formula Vision. On December 26, 2006, we distributed to our shareholders a dividend
consisting of 36,696,000 shares of Formula Vision, held by us and representing
approximately 57% of the outstanding share capital of Formula Vision. Formula Vision
shares were distributed at a ratio of 2.78 shares of Formula Vision for every one
outstanding ordinary share of Formula, prior to withholding taxes. As a result, we no
longer hold an interest in Formula Vision. For more information, see Item 5.
Operating and Financial Review and ProspectsCritical Accounting
PoliciesSpin-off of the Investment in Formula VisionDiscontinued
Operation.

Repayment of Formula Vision Debt. On December 31, 2006, Formula Vision paid
approximately $51 million to us, as a full repayment of the principal of the debentures
issued by Formula Vision to Formula in 2001 and 2002, including interest accrued thereon.
In January 2004, Formula exchanged approximately $35 million of the aggregate amount of
the debentures for 38,000,000 shares of Formula Vision issued to Formula and constituting
59.4% of the outstanding share capital of Formula Vision at that time. In December 2005,
the general meeting of shareholders approved an amendment to the debentures, pursuant to
which the repayments due in 2005 and 2006 would be deferred to December 31, 2006,
provided, however that the amount of cash and cash equivalents that Formula Vision holds
does not exceed the amount of its bank loans (including the amount of guarantees made by
Formula Vision to banks in relation to loans granted to its subsidiaries). For more
information, see Item 5.  Operating and Financial Review and
ProspectsLiquidity and Capital ResourcesRelated Party
TransactionsTransactions between Us and Formula Vision.

Private
Placement to FIMGold. In March 2005, we completed a private placement of 2,400,000
Formula shares for a net aggregate consideration of $33.0 million. The shares were issued
to FIMGold LP, an entity owned in equal shares by Dan Goldstein and FIMI Opportunity Fund.
Concurrently with the closing of the private placement, Dan Goldstein sold to FIMGold LP
all of his holdings in Formula and in Formula Vision. Following these transactions,
FIMGold LP held a 33.3% controlling interest in Formula and approximately 24% interest in
Formula Vision.

Repayment
of the Debenture to FIMI and IDB. In December 2005 and April 2006, we repaid to First
Israel Mezzanine Investors Ltd., or FIMI, and Israel Discount Bank, or IDB, a debenture in
the aggregate principal amount of $4.7 million issued by Formula in 2002.

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|B. | Business
Overview
|-- | -----------------

General

We
are a global IT solutions and services company based in Israel. We are principally engaged
in providing software consulting services, developing proprietary software products and
providing computer-based business solutions. We deliver our solutions in over 50 countries
worldwide to customers with complex IT services needs, including a number of Fortune
1000 companies. We operate in two principal business areas, IT services and
proprietary software solutions. Following is a description of our business areas:

IT
Services

We
design and implement IT solutions which improve the productivity of our customers
existing IT assets. In delivering our IT services, we at times use proprietary software
developed by members of the Formula Group. We provide our IT services across the full
system development life cycle, including definition of business requirements, system
analysis, technical specifications, coding, testing, training, implementation and
maintenance. We perform our projects on-site or at our own facilities.

Proprietary
Software Solutions

We
design, develop and market proprietary software solutions for sale in selected niche
markets worldwide. We regularly seek opportunities to invest in or acquire companies with
attractive proprietary software solutions under development which we believe to have
market potential. The majority of our investments and acquisitions in this area have been
in companies with products beyond the prototype stage. In addition, we selectively invest
in companies with proven technology where we believe we can leverage our experience to
enhance product positioning and increase market penetration. We provide our management and
technical expertise, marketing experience and financial resources to help bring these
products to market. We also assist the members of our group to form teaming agreements
with strategic partners to develop a presence in international markets.

The
Formula Group

Formula
is the parent company of subsidiaries and affiliates, referred to collectively as the
Formula Group. We currently hold a controlling interest in our subsidiaries through our
equity holdings. From time to time, if and when required, we enter into voting agreements
with other shareholders of the companies, in order to retain control of our subsidiaries.
At present, we have no voting agreements in effect. We appoint a majority of the boards of
directors of our subsidiaries through our equity holdings and, if required, through voting
agreements with shareholders who are often members of our management or of our
subsidiaries management. We provide our subsidiaries with our management, technical
expertise and marketing experience to help them to penetrate their respective markets.

We
direct the overall strategy of our subsidiaries. While the subsidiaries each have
independent management, we monitor the growth of our subsidiaries through the active
involvement in the following matters:

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| |  | strategic
planning;
| | - | -------------------

| |  | marketing
policies;
| | - | -------------------

| |  | senior
management recruitment;
| | - | ------------------------------

| |  | investment
and budget policy;
| | - | -----------------------------

| |  | financing
policies; and
| | - | -----------------------

| |  | overall
ongoing monitoring of each subsidiary's performance.
| | - | ------------------------------------------------------------

We
promote the synergy and cooperation among our subsidiaries by encouraging the following:

| |  | transfer
of technology and expertise;
| | - | -------------------------------------

| |  | leveling
of human resources demand;
| | - | -----------------------------------

| |  | combining
skills for specific projects;
| | - | ---------------------------------------

| |  | formation
of critical mass for large projects; and
| | - | --------------------------------------------------

| |  | marketing
and selling the group's products and services to the group's customer base.
| | - | -------------------------------------------------------------------------------------

We,
through our subsidiaries, offer a wide range of integrated IT solutions and services, and
design, develop and market proprietary software solutions for sale in selected niche
markets, both in Israel and worldwide.

Our
Subsidiaries

Matrix

Matrix
IT Ltd. is one of Israels leading integration and information technology services
companies, based on Duns 100 Israel Largest Enterprises 2007. Matrix
employs over 3,500 software, hardware, integration and training personnel, which provide
advanced IT services to more than 500 customers in the Israeli market. Matrix also markets
in Israel software and hardware products manufactured by a broad range of international
manufacturers.

The
solutions, services and products supplied by Matrix are designed to improve Matrixs
customers competitive capabilities, by providing a response to their unique IT needs
in all levels of their operation.

24

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Areas of Operation

Matrix
is active in four principal areas: software solutions and services, software products,
infrastructure solutions and hardware products, and training and assimilation.

Software
solutions and services.Matrix provides software services, software
development projects, outsourcing, integration of software systems and services  all
in accordance with its customers specific needs. Matrix also provides upgrading and
expansion of existing software systems. Matrix software solutions and services include the
following components: (i) development of dedicated customer software systems; (ii)
customization of software developed by Matrix or by third parties to provide a response to
customers requirements; (iii) systems assimilation; and (iv) integration of all or
part of these components. The scope of work invested in each individual component varies
from one customer to the other, based on each customers specific requirements.

Software
Products.Matrixs operations in this area include marketing and
support of software products in various categories, mainly customer relationship
management, referred to as CRM, software products, systems management and business service
management products, software products for content management, software products for
business intelligence (BI), data warehouses and extract/transform/load (ETL), software
products for integration, database systems, open-code operating systems, software products
for knowledge management, and software development and testing tools.

Infrastructure
solutions and hardware products.Matrixs operations in this area include: (i)
supply of infrastructure solutions for computer and communication systems; (ii) sale and
marketing of PCs, laptops, Intel servers, peripheral equipment, operating systems, servers
and workstations operating on Unix and Linux operating systems, and sales and marketing of
storage and backup systems for mainframe computers such as HP and IBM; and (iii)
maintenance for computers and peripheral equipment, lab services and a help desk.

Training
and assimilation.Matrix operates technological training and qualification centers
providing advanced professional courses for hi-tech personnel, training and assimilation
of computer systems, applications courses, professional training and training for capital
market operations.

Matrix
provides solutions, services and products primarily to the following four market sectors
(or verticals): banking and finance, telecommunications, commerce and manufacturing, and
the public and security forces sector.

Matrix
offers to each market sector a broad range of solutions and services, customized for the
specific needs of that sector. Matrix operates dedicated departments, each of which
specializes in a particular sector. Each such department supplies customers in that sector
with a product basket providing a response to most of its IT requirements, based on an
in-depth business understanding of the challenges which are typical to that sector. Matrix
established separate headquarters for each particular market sector, which manages the
operations relating to that sector.

25

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Specialization
in the various sectors is reflected in the applications, professional and marketing
aspects of each sector. Accordingly, the professional and marketing infrastructure
required to support each market sector is developed to address such sectors specific
needs.

In
addition to the four sector-based areas of operations, Matrix operates two horizontal
divisions providing specialist services for all of the different sectors of operations.
These entities include:

| |        
A
technology center providing development services, which include mainly cross-sector
applications and technology expertise (applications and technology expertise which can be
used in more than one business sector), as well as the development of applications that
require specialist resources and professional know-how; and
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |        
A
strategic consulting center that provides customers with diverse consultation services on
topics such as organization, strategy, business development and technological
development.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Customers

Matrixs
customers include large enterprises in Israel, including commercial banks(such
asBank Leumi, Bank Hapoalim, The First International Bank, Discount Bank, United
Mizrahi Bank and Igud Bank), loan and mortgage banks (such as Leumi Mortgage Bank),
telecommunications services providers(Bezeq, Bezeq International and Barak),
cellular operators(Cellcom, Orange and Pelephone), credit card companies (Visa
Cal, Isracard and Leumicard), leasing companies, insurance companies (such as Harel
Hamishmar, Phoenix, Clal, Migdal), security agencies, satellite operators (YES), hi-tech
companies(such as Comverse, Motorola and Amdocs), the Israeli Defense Force and
government ministries and public agencies such as Israel Electric Company, Social
Security, Mekorot, and media and publishing entities.

Magic

Magic
Software Enterprises Ltd., or Magic, develops, markets and supports composite application
development and deployment platforms with a service-oriented architecture, or SOA,
including application integration and business process management, or BPM, with existing
and legacy systems. Magics products and services are available through a global
network of subsidiaries, distributors and software solution providers in approximately 50
countries. Users of Magics solutions and technology include a broad community of
independent software vendors, system integrators, value added resellers and distributors,
OEM partners and corporations worldwide, supported by an extensive global services
organization. In addition to technology, Magic provides its customers with maintenance and
technical services, as well as professional services and training.

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Magic Core Technology

Magic
embeds at its core a metadata driven rule based technology, abstracting repetitive and
mundane programming chores, and enabling a high degree of agility and flexibility for
solutions implemented with Magics products.

Magics
technology solutions include a comprehensive set of resources and services, offering
compliance with leading architectures and environments. Magics products provide
platform independence and interoperability.

With
over 20 years of experience and thousands of customers and partners, Magic offers leading
composite applications development and deployment tool suites. Using Magics
technology, customers can implement and migrate to a service-oriented architecture,
leveraging existing IT assets within new business processes and composite applications,
and maximize the return on past and new IT investments.

Magic
delivers the following two complementary products that address the wide spectrum of SOA
and composite applications:

     iBOLT
Business Integration Suite  a flow-oriented composite applications toolset,
delivering a comprehensive, business-driven integration framework that empowers
enterprises to improve business performance. iBOLT enables customers to easily design,
develop and deploy automated business processes, including BPM and business activity
monitoring. Increasing the usability and life span of existing legacy and other business
applications and IT systems, iBOLT allows fast application integration (EAI), development
and customization of diverse applications, systems and databases, assuring rapid return
on investment and time-to-market, increased profitability, and customer satisfaction.

     eDeveloper  an
interactive composite application platform, delivering a productive, state-of-the-art
technology for developing and deploying Web and client/server applications across and
beyond the enterprise. eDeveloper automates the mundane repetitive tasks of the software
development cycle  significantly shortening the process; reducing project risk; and
minimizing human errors.

Magic
development and integration products empower customers to significantly improve their
business performance and return on investments by enabling the affordable and rapid
integration of diverse applications, systems and databases to streamline business
processes.

Magics
technologies adhere to open standards and deliver high levels of portability and
scalability, crucial for todays dynamic business environment, and operate as a
uniform application paradigm independent of architecture (Internet, client/server, mobile,
LAN/WAN), operating systems (Windows, Linux, UNIX, iSeries), database (DB2, Oracle,
Informix, MS SQLServer, Pervasive and others), or platform (.NET, J2EE).

27

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Enabling Business

Magic
technology and solutions are particularly in demand when time-to-market is critical,
budgets are tight, integration with multiple platforms, databases or existing systems and
business processes is required, compliance to industry regulations is needed or a high
degree of application maintenance and customization is anticipated.

Magic
addresses customers critical business need to respond quickly to changing market
demands. Magics robust business solutions are created, deployed and maintained with
unrivaled productivity and time-to-market results. Magics combination of event
driven and service-oriented architecture enables developers to master the tools and create
better solutions within a shorter time and with fewer resources.

Development
communities have become increasingly disjointed, creating an even greater need for a
development environment that provides open interfaces to leading technologies and
standards. Magics eDeveloper and iBOLT products provide developers, system
architects and IT persons with the ability to rapidly build integrated applications in a
more productive manner, lowering IT maintenance costs and decreasing time-to-market.

A
wide variety of developers use Magics products, including in-house corporate
development teams and software houses. Large and medium sized system integrators use
Magics products in large customized system integration projects and for developing
industry-specific vertical applications.

Professional Services

Magic,
together with Magics partners, offers customers application integration and
development services that assist customers in maximizing their development investments.
These services include project management, technical support, installation services,
application development, integration, consulting and training. All projects are subject to
a rigorous standard for project management and quality assurance. Nevertheless,
Magics goal is to provide such activities as a complementary service to customers
and partners as part of its focus on license sales.

Strategic Alliances

Magic
forms strategic alliances to help deliver complete solutions to customers. These solutions
encompass application integration, development, vertical domain expertise and hardware
implementation. Magic maintains strategic alliances with leading vendors, like SAP, IBM,
Oracle, Salesforce.com and Iway. Magics partnership with SAP, entered into in 2004,
focuses on providing a special edition of iBOLT which extends the value of SAP
implementations with capabilities such as extended workflows, composite applications,
multi-channel access, interoperability and integration with other systems and platforms,
as well as business activity and performance monitoring. Magic applies the same marketing
concept to other leading enterprise application ecosystems, with special editions of iBOLT
for Oracles JD Edwards and Salesforce.com CRM. In addition, Magic has alliances with
system integrators, software and hardware vendors and consulting organizations. These
partnerships enable Magic to better serve its customers worldwide.

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Vertical Solutions

Magic
also develops, markets, and supports, through its subsidiaries and affiliates, vertical
applications, including long-term care, cargo handling and inventory control solutions.

        Cargo
handling  Hermes (formerly Magic eCargo) is a comprehensive solution for cargo
handling and inventory control that is designed to increase productivity, improve
efficiency, and reduce costs. Hermes handles many aspects of a cargo operation including
inventory control, automated build-up of flights/manifesting, messaging to CARGO-IMP
standards, customs clearance, weight and balance departure control systems, interfacing,
scanning and verification of cargo, secured tracking and a comprehensive financial
package for all aspects of charging, collecting fees and invoicing.

       Banking  Nextstep
Infotech PVT Ltd. develops and markets Cheq Mate, a banking application that provides
most of the functionality needed to run a retail branch, including support for various
deposit types, advances, time deposits, bank guarantees, letters of credit and portfolio
management.

       Professional Services  CoreTech
is an information technology consulting firm offering flexible and creative solutions in
the areas of infrastructure design and delivery, application development, technology
planning and implementation services, and supplemental staffing.

Markets and Customers

Magic
markets and sells its products and services in approximately 50 countries worldwide.
Industries that are significantly represented in the Magic community base include finance,
retail, media, telecommunications, manufacturing, healthcare and government agencies.
Among the thousands of end-users running their business systems with Magics
technology, are the following:

| |   |                      |   |                 |   |                    
| | - | -------------------- | - | --------------- | - | -------------------
|
|
|
|
| |  | Adidas-Solomon       |  | Financial Times |  | Minolta            
| |  | Allstate             |  | GAP             |  | NEC                
| |  | Athlon Group         |  | Hitachi         |  | Nestle Nespresso   
| |  | Bank of France       |  | John Menzies    |  | Nintendo           
| |  | Burger King          |  | Kodak           |  | Philip Morris      
| |  | Chase Manhattan Bank |  | Marconi Mobile  |  | State of Washington
| |  | Club Med             |  | Matsushita      |  | The United Nations 
| |  | Compass Group PLC    |  | McDonalds       |  | Victorinox         
| |  | Deka Bank            |  | McKesson HBOC   |  | Vodafone           
| |  | Fiat                 |  | Merrill Lynch   |   |                    
| |   |                      |   |                 |   |                    

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Sapiens

Sapiens
International Corporation N.V. is a global provider of IT solutions that modernize
business processes to enable insurance and other leading companies to quickly adapt to
changes. Sapiens solutions, sold as customizable software modules, align IT with
business demands for speed, flexibility and efficiency. Sapiens solutions are
supplemented by its technology, methodology and consulting services, which address the
complex issues related to the life-cycle of enterprise business applications.
Sapiens solutions include scalable insurance applications developed for leading
organizations such as AXA, Norwich Union, Liverpool Victoria, IAT Group, ING, OneBeacon,
Principal Financial Group, Texas Farm Bureau Insurance Companies, Menora Mivtachim
Insurance and Santam. Sapiens service offerings include a standard consulting
offering that helps customers make better use of IT in order to achieve their business
objectives.

Sapiens
core technology, Sapiens eMerge, is a rules-based application development
suite which enables rapid solution development for complex mission-critical enterprises to
deliver new functionality, achieve legacy modernization and enterprise application
integration. The primary building block of Sapiens solution offerings is Sapiens
eMerge, Sapiens business rules engine. The use of Sapiens eMerge reduces
the complexity of programming so that new applications and modifications of existing ones
can be produced in a much shorter time than through conventional programming.

Another
key advantage of Sapiens eMerge is the ability to extend the productive life of
older computer systems, while at the same time providing the basis for using new
generation Internet and service-oriented technologies. The use of rapid application
development allows enterprise-specific enhancements to be made in a shorter time and with
a greatly reduced maintenance burden when compared to other technologies.

Development,
deployment, integration and administration of applications are all accomplished through
the technology components of Sapiens eMerge, providing customers with flexible,
scalable and feature-rich systems. Sapiens eMerge, which serves over 100 of
Sapiens customers worldwide, reduces the cost of business software development and
maintenance.

Sapiens
markets its solutions globally through its direct sales force and through marketing
alliances with global IT providers, such as IBM Corporation and Electronic Data Systems
Corporation. Sapiens is a Premier Business Partner of IBM and works with IBM
on solutions, joint development, testing, validation and marketing. Through this and other
business alliances, Sapiens has developed extensive knowledge in mainframe and mid-range
systems, including CICS, DB2, MQ and the WebSphere e-business platform. Sapiens is also a
member of IBMs Insurance Application Architecture (IAA) group and the ISV Advantage
Program for the small and medium business insurance market segment.

Sapiens
Business Solutions for the Insurance Industry

Sapiens
has formulated Sapiens INSIGHT, a suite of modular business software solutions that
make use of existing assets to quickly and cost-effectively modernize business processes
that are the key to survival in the current, challenging insurance landscape.
Sapiens insurance solutions, which include the Sapiens INSIGHT family, are
based on Sapiens core technology, Sapiens eMerge.

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Sapiens
INSIGHT is designed for the general (property and casualty) and life insurance
markets. These solutions can be customized to match specific legacy systems and business
requirements, while providing pre-configured functionality. These solutions can be used
independently or together as follows:

| |  | SapiensINSIGHT for
Property & Casualty is a fully functional, general insurance policy
administration solution that makes it easier for brokers and agents to do business with
carriers. By automating the process, this web-enabled solution reduces the cost of doing
business and optimizes risk selection through the use of rules based underwriting.
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | SapiensINSIGHT for
Life & Pensionsis a powerful and comprehensive framework-based life and pensions
solution that serves companies administering life insurance, pension funds, health
insurance and saving plans. Sapiens INSIGHT for Life & Pensions is dynamic,
highly customizable and can be easily accommodated to administer changes in processes. It
is fully web-enabled, prepared to utilize the advantages of the internet and intranet.
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | SapiensINSIGHT for
Underwriting (formerly MediRisk INSIGHT) is an underwriting solution for life,
health and disability insurance. It reduces customers costs by automating a larger
portion of the process of evaluating the risks of new business and by streamlining the
procedures for handling new business. By using this solution, an insurance company can
make underwriting assessments on new cases earlier in the business cycle and achieve
greater consistency in its decision-making. Sapiens markets INSIGHT for
Underwriting on the basis of licensing and distribution agreements with MediRisk
Solutions Ltd. which developed the solution and holds the intellectual property rights to
it.
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | SapiensINSIGHT for
Reinsurance is a functional-rich solution for the insurance market, designed to
support insurance carriers in the management of all types of reinsurance for the general
(property and casualty) and life insurance markets, according to the rapidly changing
requirements of the international reinsurance market. This state-of-the-art, web-enabled
solution streamlines and reduces the cost of handling all reinsurance functions through
automation, is based on ACORD standards and B2B XML technology, and is designed for a
multi-language, multi-currency and multi-company environment.
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | SapiensINSIGHT for
Closed Books, also known as LifeLite, is a solution for life insurance companies and
pension funds seeking ways to reduce the cost of maintaining long-term closed books of
business, that is, lines of business that are no longer current. Sapiens provides
customizable solutions that enable companies to efficiently and more effectively
administer policies and claims relating to closed books.
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

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Sapiens
collaborates with its customers to tailor the Sapiens INSIGHT solutions to achieve
the unique operational performance goals of each organization. In addition, Sapiens has
executed independent projects for the insurance market, providing enhanced information
access and visibility to empower the sales, agent and broker community, thus accelerating
transaction processing for improved customer service and business efficiency.
Sapiens insurance solutions are compatible with a variety of platforms including IBM
zSeries and iSeries, HP UNIX at the host-side and Windows 2000/XP Web servers. They are
also compatible with open architecture standards such as .NET, Java EE, XML, Web Services
and application server platforms such as IBMs WebSphere.

Services

Outsourcing
of application maintenance. Sapiens outsourcing services were developed from its
strong, long-term relationships with its customers. Sapiens is currently servicing
multi-year outsourcing contracts with blue-chip customers involving mission-critical
systems. The outsourcing projects are performed either on or off the customers
premises. Sapiens asset discovery solution contributes to the maintenance and
management of an enterprises IT environment.

IT
Services. Sapiens provides customers with specialized IT services in many areas,
including project management and technical assistance. Sapiens personnel work with
the customer for the duration of the entire project, collectively undertaking design,
development and deployment tasks, coupled with hands-on-training, to achieve a rapid
software solution that matches the customers business and IT goals.

Customers

Sapiens
INISGHT.Sapiens markets the Sapiens INISGHT suite of solutions to
insurance carriers in four main categories: Property & Casualty (known as General
Insurance in Europe); Life and Pensions (known as Life and Health in the US), Reinsurance
and Medical Underwriting. Sapiens customers and target markets have direct written
premiums in the range of $80 million to $5 billion per year. However, given the
flexibility and modularity of the Sapiens INISGHT suite of solutions, its offerings
can accommodate most situations and budgets.

Sapiens
eMerge.Sapiens markets Sapiens eMerge primarily to corporate customers
and government entities with large information technology budgets and ongoing maintenance
and development needs. Sapiens corporate customers include, among others, insurance
companies, banks and other companies offering financial services and companies in the
manufacturing and transportation sectors. The principal markets in which Sapiens competes
are located in North America, Europe, Israel and Japan.

nextSource Inc.

nextSource
operates in the field of workforce solutions by developing and delivering an innovative
and comprehensive suite of services and products. This model allows customers to engage
nextSource for one or any combination of solutions that address the rapidly changing
challenges posed to the customer by todays global, complex workforce. nextSource
ability to meet a customers entire workforce management present and future needs, as
a single source, positions it as the workforce solutions provider of choice.

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nextSources
wheel of integrated solutions include:

| |  | Vendor
Management  Talent Acquisition Management Solution (TAMS)
| | - | -----------------------------------------------------------------

One
of nextSources key products is its intuitive, web-based vendor management system
named Talent Acquisition Management Solution, or TAMS. TAMS is a scalable, 8th generation
vendor management software application. TAMS automates the process of acquiring and
managing a customers workforce consisting of temporary staffing, contract workers,
consultants and direct hires. TAMS also facilitates the competitive sourcing and tracking
of fixed price, deliverable-based projects.

TAMS
introduces process improvements resulting in the elimination of inefficiencies, reducing
the amount of time HR managers and procurement teams spend in acquiring and tracking
contingent workforces. The application provides timekeeping, invoicing, online
requisitioning, online purchase orders and all approvals associated with each function.
nextSource is able to configure the application to fit its customers specifications
with minimal implementation time through nextSources highly experienced
implementation team.

| |  | Salary
& Rate Benchmarking  The PeopleTicker
| | - | ---------------------------------------------

nextSources
key product in this area, The People Ticker, is the industrys only
web-based, real-time rate and salary benchmarking tool for full-time and contingent
compensation. The People Ticker replaces the antiquated salary survey approach
by providing users with real time rate and salary data specific to an industry, geographic
region and job description. With this powerful application, customers are able to assess
and react to the cost of specific labor market fluctuations on a real-time basis. The
application takes the guesswork out of establishing geography and position specific,
hourly rates and full-time salaries for employees based on current market supply and
demand. Armed with this information, customers are now able to hire and retain employees,
procure contingent labor and budget for project-based initiatives in a cost effective
manner. Currently, The PeopleTicker is in its 3rd generation and covers the United States,
Canada, United Kingdom and India.

| |  | Payrolling
Services/Third-Party Employer of Record Services
| | - | -----------------------------------------------------------

nextSource
offers a comprehensive payrolling and risk mitigation service. nextSource payrolling
services protect its customers and mitigate risks and the many legal issues surrounding
the acquisition of 1099s or independent contractors. nextSource serves as the employer of
record for these resources providing customers with the ability to maintain flexible
workforce capabilities. nextSource complements its payrolling services offering with
People Time, a web-based, time and attendance tracking application enabling
hiring managers to collect and report worker time and cost data.

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| |  | Staffing
| | - | --------

Through
ConsultingDirect, nextSource creates an efficient web-enabled labor
market/reverse auction through which a pool of pre-screened and pre-qualified members of
its Registry of Certified Consultants (ROCC), have the opportunity to bid for open
positions. ROCC members provide their requested hourly rate or project fee and the
customer is able to make an informed decision in a highly competitive, transparent
auction-type market for each job posting. nextSource believes that this system provides a
very efficient process for customers to reach a wide group of pre-screened, pre-negotiated
candidates.

| |  | Agency
Exchange
| | - | ---------------

In
2003, nextSource created The Multiple Listing Staffing Association (MLSA), an
industry-wide network of independent, nextSource-qualified staffing agencies. The MLSA
brings together staffing agencies working cooperatively with one another under the
nextSource umbrella. Members of the MLSA can post an unlimited number of openings of any
type on nextSources web-based portal and increase their own qualified candidate pool
by accessing the nextSource database of candidates, in addition to accessing new customers
and additional openings from other agencies.

| |  | HR/Procurement
Consulting
| | - | -------------------------

nextSource
provides HR and procurement consulting, including assisting customers with the negotiation
of rates and supplier agreements and the establishment of agency performance metrics.
nextSource also offers salary and compensation analysis, assessment of co-employment
risks, review of on-boarding and off-boarding procedures and other HR policies and
processes.

Sales and Marketing

Our
subsidiaries conduct sales and marketing efforts primarily through division or product
managers. In certain cases, the companies devote sales managers who, aided by their
staffs, are responsible for ongoing customer relationships, as well as sales to new
customers. In addition, the IT services companies participate in competitive bidding
processes, primarily for turnkey and government projects, as well as large IT services
contracts. Our subsidiaries attend trade shows and exhibitions in the high technology
markets, while further supplementing their sales efforts with space advertising and
products and services listing in appropriate directories. In addition, our subsidiaries
organize user group meetings for their customers, where new products and services are
highlighted. We typically enter into strategic alliances and intend to pursue acquisitions
in order to penetrate various international markets and promote sales of our proprietary
software solutions in international markets.

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The
following table summarizes our revenues by operating segments for the periods indicated:

| |                         | Software
Services | Proprietary
Software
Products | Total
| | ----------------------- | ----------------- | ----------------------------- | -----
|
|
|
|
| | Year ended December 31, |                   |                               |      
| |                         |                   |                              
| | 2007                    |                   |                               |      
| |                         |                   |                              
| | 2006                    |                   |                               |      
| |                         |                   |                              
| | 2005                    |                   |                               |      
| |                         |                   |                               |      

The following
table summarizes the revenues from our IT products and services by geographic regions of
our customers, for the periods indicated:

| |                | Year ended December 31,
| | -------------- | -----------------------
|
|
|
|
| | Israel         |                        
| |                |                        
| | International: |                        
| |                |                        
| | United States  |                        
| |                |                        
| | Other          |                        
| |                |                        
| |                |                        
| |                |                        
| |                |                        
| |                |                        
| | Total          |                        
| |                |                        
| |                |                        

Competition

The
markets for the IT products and services we offer are rapidly evolving and highly
competitive. Our ability to compete successfully in IT services markets depends on a
number of factors, like breadth of service offerings, sales and marketing efforts,
service, pricing, and quality and reliability of services. The principal competitive
factors affecting the market for the proprietary software solutions include product
performance and reliability, product functionality, availability of experienced personnel,
price, ability to respond in a timely manner to changing customer needs, ease of use,
training and quality of support.

We
face competition, both in Israel and internationally, from a variety of companies,
including companies with significantly greater resources than us who are likely to enjoy
substantial competitive advantages, including:

| |  | longer
operating histories;
| | - | ---------------------------

| |  | greater
financial, technical, marketing and other resources;
| | - | ------------------------------------------------------------

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| |  | greater
name recognition;
| | - | -------------------------

| |  | well-established
relationships with our current and potential clients; and
| | - | --------------------------------------------------------------------------

| |  | a
broader range of products and services.
| | - | -----------------------------------------

As
a result, they may be able to respond more quickly to new or emerging technologies or
changes in customer requirements. They may also benefit from greater purchasing economies,
offer more aggressive product and service pricing or devote greater resources to the
promotion of their products and services. In addition, in the future, we may face further
competition from new market entrants and possible alliances between existing competitors.
We also face additional competition as we continue to penetrate international markets. As
a result, we cannot assure you that the products and solutions we offer will compete
successfully with those of our competitors. Furthermore, several software development
centers worldwide offer software development services at much lower prices than we do. Due
to the intense competition in the markets in which we operate, software products prices
may fluctuate significantly. As a result, we may have to reduce the prices of our
products.

Matrixs
principal competitors in the domestic Israeli market are Israeli IT services companies and
systems integrators, the largest of which are Ness Technologies Inc. and Team-Malam.
Matrixs international competitors in the Israeli marketplace include HP, EDS, IBM
and Microsoft. These international competitors often use local subcontractors to provide
personnel for contracts performed in Israel. Most of these international entities are also
business partners of Matrix.

Magics
principal competitors in the market for the eDeveloper technology are Visual Basic
(Microsoft), Progress, Delphi and Jbuilder (Borland), Java, Oracle, Compuware and Lansa.
The principal competitors in the market for Magics iBOLT Integration Suite are
Software AG, Tibco, Vitria, Pegasystems, Cordys, IBMs WebSphere, Microsofts
BizTalk and Sonic Software (Progress).

Sapiens
competitors in the market for solutions offered to the insurance industry fall into
several categories: vendors of complete systems, vendors of insurance software products,
large multinational integrators and local integrators in the various territories where
Sapiens operates.

Examples
of Sapiens competitors are: CSC, Camilion, SOLCORP, Fineos, SAP, SunGard, Navisys,
Fiserv, OneShield, Ascendant One, Insurity, IDP, The Innovation Group, Duck Creek and AQS
in the United States; Unisys, SunGard, FIS Software and RebusIs in the United Kingdom;
Falmeyer (FJA), COR AG Insurance Technologies and IDIT IDI Technologies in Europe.
Examples of large integrators in the insurance field are Electronic Data Systems and CSC
(companies that also have customer or alliance relationships with Sapiens in other
fields). An example of a competitor that is a local integrator is Ness Technologies in
Israel.

36

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In
addition, Sapiens faces competition from its customers and potential customers
internal IT departments, who often prefer to develop solutions in-house.

Sapiens
competitors in the business rule engines and management marketplace include Fair Isaac
(Blaze), Pegasystems, ILOG, Computer Associates, Haley, Corticon, Versata, RuleBurst and
ESI.

Software Development

The
software industry is characterized by rapid technological developments. In order to
maintain technological leadership, we engage in ongoing software development activity
through our subsidiaries, aimed at both creating new proprietary software and services, as
well as enhancing and customizing existing products and services. This effort includes
introducing new supported programming languages and database management systems; improving
functionality and flexibility and enhancing ease of use. We work closely with current and
potential end-users, our strategic partners and leaders in certain industry segments to
identify market needs and define appropriate product enhancements and specifications.

Intellectual Property
Rights

We
rely on a combination of trade secret, copyright and trademark laws and non-disclosure
agreements, to protect our proprietary know-how. Some members of our group have patents
and patent applications pending. Our proprietary technology incorporates processes,
methods, algorithms and software that we believe are not easily copied. Despite these
precautions, it may be possible for unauthorized third parties to copy aspects of our
products or to obtain and use information that we regard as proprietary. We believe that,
because of the rapid pace of technological change in the industry, patent and copyright
protection are less significant to our competitive position than factors such as the
knowledge, ability and experience of our personnel, new product development and ongoing
product maintenance and support.

|C. | Organizational
Structure
|-- | ------------------------

Formula
is the parent company of the Formula Group.

The
following table presents certain information regarding the control and ownership of our
significant subsidiaries, as of June 20, 2008.

| | Subsidiary                             | Country of Incorporation | Percentage
Of Ownership
| | -------------------------------------- | ------------------------ | -----------------------
|
|
|
|
| | Matrix IT Ltd.                         |                          |                        
| |                                        |                          |                        
| | Magic Software Enterprises Ltd.        |                          |                        
| |                                        |                          |                        
| | Sapiens International Corporation N.V. |                          |                        
| |                                        |                          |                        
| | nextSource Inc.                        |                          |                        
| |                                        |                          |                        

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We
sold our entire shareholdings in BluePhoenix in June 2007.

The
ordinary shares of Magic and Sapiens are traded on the NASDAQ Global Market and on the
TASE, and the ordinary shares of Matrix are traded on the TASE.

|D. | Property,
Plants and Equipment
|-- | ------------------------------

Our
corporate headquarters, as well as the research and development and sales and marketing
headquarters of a majority of our subsidiaries, are located in Herzlia, Israel. We lease
approximately 100,000 square feet of office space in Herzlia, pursuant to a lease which
expires on October 31, 2009. We also lease approximately 190,000 square feet of office
space in several other locations in Israel.

We
own a 39,300 square feet facility in Or-Yehuda, Israel used for office space of Magic.

In addition,
Sapiens leases approximately 45,000 square feet of office space in Rechovot, Israel, 4,700
square feet in the United States and 13,800 square feet in Great Britain, Magic leases
approximately 12,800 square feet of office space in the United States and several of our
subsidiaries lease some additional office space and sales and support premises in the
United States, Europe and Asia.

We
believe that our properties are adequate for our present uses. If in the future we require
additional space to accommodate our growth, we believe that we will be able to obtain this
additional space without difficulty and at commercially reasonable prices.

# ITEM 4A. UNRESOLVED
STAFF COMMENTS

Not applicable.

# ITEM 5. OPERATING AND
FINANCIAL REVIEW AND PROSPECTS

# Overview

Formula
is the parent company of subsidiaries and affiliates, referred to collectively as the
Formula Group. We are principally engaged in providing software consulting services,
developing proprietary software products and providing computer-based business solutions.
We currently hold a controlling interest in three publicly traded subsidiaries: Magic,
Matrix and Sapiens. In addition, we wholly own nextSource. We consolidate the results of
operations of our subsidiaries in which we hold a controlling interest, with ours. Our
operating results are directly influenced by the consolidation and cessation of
consolidation of our subsidiaries. This could cause significant fluctuations of our
consolidated operating results. As a result, we believe that period-to-period comparisons
of our results of operations are not necessarily meaningful and you should not rely on
these comparisons as indications of our future performance.

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On
December 30, 2007, our subsidiary Magic sold its entire holdings in AAOD for $17 million.
For more information, see Item 4.A. Capital Expenditures and Divestitures.

On
June 20, 2007 we completed the sale of our entire holdings in our subsidiary BluePhoenix
to international institutional investors for aggregate consideration of approximately $64
million. Formula recognized capital gains of approximately $18 million from the sale.

On
December 26, 2006, we spun-off Formula Vision. The spin-off was effected by way of
distributing 36,696,000 Formula Vision shares owned by us (representing approximately 57%
of the outstanding share capital of Formula Vision) as a dividend to our shareholders. For
more information, see Critical Accounting Policies- Spin-off of the Investment in
Formula Vision and Critical Accounting Policies Discontinued
Operation below.

On
December 31, 2006, Formula Vision paid to us approximately $51 million, as a full
repayment of the principal of the debentures and interest accrued thereon.

We
recognize revenues in two categories: the delivery of software services and the delivery
of proprietary software solutions. All of our subsidiaries, including IT services
companies and proprietary software solutions companies, recognize revenues from the
delivery of software services, and most of them recognize revenues in both revenue
categories. We have separated our subsidiaries into these categories in accordance with
the category in which each subsidiary has earned most of its revenues.

We
recognize, in non-operating income, gains and losses arising from the sale of previously
un-issued capital stock by a subsidiary or an affiliate to outside investors, if the sale
changes our ownership percentage in this entity. We measure the gain or loss by the
difference between our share in the proceeds from this stock offering and the carrying
amount, on an equity basis, of the proportionate reduction in our investment. Transactions
of this nature do not occur on a regular basis and it is difficult for us to predict their
timing.

Our
functional and reporting currency

Beginning
in 2007, Formula changed its functional currency from NIS to the dollar since most of its
assets are denominated in dollars and Formula has no outstanding NIS loans. This,
according to indicators as mentioned in Financial Accounting Standards Board Statement no.
52 Foreign Currency Translation, referred to SFAS 52 . Prior to 2007, Formula
operated primarily in the economic environment of the New Israeli Shekel (NIS) and its
functional currency was the NIS. The functional currencies of Formulas subsidiaries
are the NIS and the dollar. Formula has elected to use the dollar as its reporting
currency.

Formula
translates the financial statements of its subsidiaries whose functional currency is
the NIS, into dollars, under the principles described in SFAS 52. Assets and liabilities
have been translated at period-end exchange rates.  Results of operations have been
translated at the exchange rate at the dates on which those transactions occurred or at an
average rate. We present differences resulting from translation under shareholders
equity in the item accumulating other comprehensive income (loss). In the consolidation,
Formula presents the financial statements of subsidiaries whose functional currency is the
dollar, at the original amounts.

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The
comparative figures for 2006 and 2005 have been measured under the assumption that
Formulas functional currency was the NIS. The financial statements of prior years of
Formula and most of its subsidiaries whose functional currency is the NIS have been
translated into dollars under the principles described in SFAS 52.

Critical
Accounting Policies

In
preparation of our financial statements, we are required to make certain estimates,
judgments and assumptions that we believe are reasonable based upon the information
available. These estimates and assumptions affect the reported amounts of assets and
liabilities at the date of the financial statements and the reported amounts of revenues
and expenses during the periods presented. The significant accounting policies which we
believe are the most critical to aid in fully understanding and evaluating our reported
financial results include the following:

Revenue Recognition

The
revenue recognition policy of each of our significant subsidiaries is material because our
revenue is a key component of our results of operations. Our revenue recognition
determines the timing of certain expenses, such as commissions and royalties. We follow
very specific and detailed guidelines in measuring revenue; however, certain judgments
affect the application of our revenue policy. Revenue results are difficult to predict and
any shortfall in revenue or delay in recognizing revenue could cause our operating results
to vary significantly from quarter to quarter and could result in future operating losses.
Should changes in conditions cause our subsidiaries managements to determine that
these guidelines are not met for certain future transactions, revenue recognized for any
reporting period could be adversely affected.

Revenues
derived from direct software license agreements are recognized in accordance with
Statement of Position (SOP) 97-2 Software Revenue Recognition (as amended by
SOP 98-4 and SOP 98-9), upon delivery of the software when collection is probable, the
license fee is otherwise fixed or determinable and persuasive evidence of an arrangement
exists. When a project involves significant modification of software, revenue is generally
recognized according to the percentage of completion method. Under this method, estimated
revenue is generally accrued based on costs incurred to date as a percentage of total
updated estimated costs. If our subsidiaries do not accurately estimate the resources
required or the scope of work to be performed, or do not manage their projects properly
within the planned periods of time or satisfy their obligations under the contracts, then
future margins may be significantly and negatively affected or losses on existing
contracts may need to be recognized. Any such resulting reductions in margins or contract
losses could be material to our results of operations. Our subsidiaries recognize contract
losses, if any, in the period in which they first become evident.

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SOP
No. 97-2 generally requires revenue earned from software arrangements involving multiple
elements to be allocated to each element based on the relative fair values of the elements
determined by the vendors specific objective evidence, or VSOE, of fair value.
Revenue is recognized under the residual method when VSOE of fair value exists
for all undelivered elements and VSOE of fair value does not exist for all of the
delivered elements, and when all SOP No. 97-2 criteria for revenue recognition are met, as
described above. The VSOE of fair value of the undelivered elements included in multiple
element arrangement (maintenance, support and services) is determined based on the price
charged for the undelivered element when sold separately.

Generally
there are no rights of return, price protection or similar contingencies in our
subsidiaries contracts. Accordingly, they do not establish a provision due to the
lack of warranties claims in the past. Some of our subsidiaries contracts
include customer acceptance clauses. In determining whether revenue can be recognized,
when an acceptance clause exists, they consider their history with similar arrangements,
the customers involvement in the progress, the existence of other service providers
and the payments terms.

We
recognize revenues from projects billed on a time and material basis, based on SOP 81-1
Accounting for Performance of Construction  Type and Certain Production 
Type Contracts, using contract accounting on a percentage of completion method,
based on the relationship of actual costs incurred to total costs estimated to be incurred
over the duration of the contract. Provision for estimated losses on uncompleted contracts
is made in the period in which such losses are first determined, in the amount of the
estimated loss on the entire contract.

We
recognize revenues from consulting fees with respect to fixed fee contracts, based upon
the percentage of completion method. We recognize contract losses, if any, in the period
in which they first become evident.

Revenues
from contractual maintenance contract and training are recognized ratably over the
contract period.

Revenues
from sales of hardware are recognized when the merchandise is delivered to the customer,
provided no significant vendor obligations remain.

Our
management believes that our revenue recognition policies are in accordance with the SEC
Staff Accounting Bulletin No. 101 and Staff Accounting Bulletin No. 104,
Revenue Recognition in Financial Statements.

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Capitalized Software
Research and Development Costs

Development
costs of software that is intended for sale that were incurred after the establishment of
technological feasibility of the relevant product, are capitalized. Technological
feasibility is determined by our subsidiaries when detailed program design is completed
and verified in accordance with the provisions of the FASB Statement of Financial
Accounting Standards No. 86 (SFAS 86). Software development costs incurred by our
subsidiaries before technological feasibility is established are charged to the statement
of operations as incurred net of participation of the Office of the Chief Scientist (OCS).
Our subsidiaries policy on capitalized software costs determines the timing of our
recognition of certain development costs. In addition, this policy determines whether the
cost is classified as development expense or capitalized costs. Our subsidiaries
management is required to use professional judgment in determining whether development
costs meet the criteria for immediate expense or capitalization. Amortization of
capitalized software development costs begins when the product is available for general
release to customers. Annual amortization is computed by the straight-line method, over
the remaining useful life of the product, or based on the ratio of current gross revenues
to current and anticipated future gross revenues, whichever is higher. Currently,
amortization is computed by the straight-line method over a period of 3 to 5 years. Our
subsidiaries failure to accurately predict the useful life of capitalized software
could cause a one-time amortization, which could adversely affect our operating results.

Impairment of
Goodwill and Intangible Assets

Our
business acquisitions resulted in goodwill and other intangible assets. We periodically
evaluate our goodwill, intangible assets, and investments in affiliates for potential
impairment indicators. Our judgments regarding the existence of impairment indicators are
based on legal factors, market conditions and operational performance of our acquired
businesses and investments.

In
accordance with FASB Statement of Financial Accounting Standards No. 142 Goodwill
and Other intangible Assets (SFAS 142), indefinite life intangible assets and
goodwill are not amortized but rather subject to annual impairment testing.

Goodwill
and intangible assets are tested for impairment by comparing the fair value of the
reporting unit with its carrying value. Fair value is generally determined using
discounted cash flows, market multiples and market capitalization. Significant estimates
used in the fair value methodologies include estimates of future cash flows, future
short-term and long-term growth rates, weighted average cost of capital and estimates of
market multiples of the reportable unit. If these estimates or their related assumptions
change in the future, we may be required to record impairment charges for our goodwill and
intangible assets. These write downs, if any, may have an adverse affect on our operating
results. Future events could cause us to conclude that impairment indicators exist and
that additional intangible assets associated with our acquired businesses are impaired.

The
process of evaluating the potential impairment of goodwill is subjective and requires
significant judgment at many points during the analysis. Changes in judgment on these
assumptions and estimates could result in a goodwill impairment charge. Any resulting
impairment loss could have a material adverse impact on our financial condition and
results of operations.

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Spin-off of the
Investment in Formula Vision

According
to APB No. 29 Accounting for Nonmonetary Transactions, a spin off is accounted
as a decrease in the companys retained earnings and measured according to the book
value of the investment as of the spin-off date.

Discontinued
Operation

Under
SFAS 144, when a component of an entity, as defined in SFAS 144, has been disposed of or
is classified as held for sale, the results of its operations, including the gain or loss
on its disposal should be classified as discontinued operations and the assets and
liabilities of such component should be classified as assets and liabilities attributed to
discontinued operations. The operations, assets and liabilities of the component would be
eliminated from the companys consolidated operations and the company will no longer
have any significant continuing involvement in the operations of the component.

Share-Based Payments

Effective
January 1, 2006, we adopted Statement of Financial Accounting Statement No. 123 (revised
2004), Share-Based Payment, referred to as SFAS 123(R), which is a revision of
FASB Statement No. 123, Accounting for Stock-Based Compensation, or SFAS 123,
which requires the measurement and recognition of compensation expense based on estimated
fair values for all shared based payments awards made to employees and directors. In March
2005, the SEC issued Staff Accounting Bulletin No. 107, or SAB 107, relating to SAFS
123(R). We have applied the provisions of SAB 107 in our adoption of SFAS 123(R).

SFAS
123(R) requires us to estimate the fair value equity-based payment awards on the date of
grant using an option-pricing model. The value of the portion of the awards that is
ultimately expected to vest is recognized as an expense over the requisite service periods
in our consolidated statement of operations. Prior to the adoption of SFAS 123(R), we
accounted for equity based awards under the fair value recognition provisions of SFAS 123.

We
adopted SFAS 123(R) using the Modified Prospective Method. Under that transition method,
compensation cost recognized in the year ended December 31, 2007 included: (a)
compensation cost for all share-based payments granted prior to, but not yet vested as of,
January 1, 2006, based on the grant date fair value estimated in accordance with the
original provisions of SFAS 123; and (b) compensation cost for all share-based payments
granted subsequent to January 1, 2006 based on the grant-date fair value estimated in
accordance with the provisions of the SFAS 123(R). In December 2005, primarily as a result
of the issuance of SFAS 123(R), we accelerated the vesting of all unvested stock options
held by employees and directors.

Beginning
on the date of adoption of SFAS 123(R), we estimate forfeitures based on historical
experience and other factors; previously, we recorded forfeitures as they occurred.

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|A. | Operating
Results
|-- | -----------------

Year
Ended December 31, 2007 Compared to Year Ended December 31, 2006

Revenues.
          Revenues increased 18% from $416.8 million in 2006 to $493.4 million in 2007.
          Revenues from the two categories of our operation were as follows: Revenues
from           the delivery of software services increased 23% from $320.0 million in
2006 to           $392.5 million in 2007. This increase was attributable to the growth in
          Matrixs and nextSources revenues due to an increased demand for
          their services. Revenues from the sale of proprietary software solutions in
2007           were $100.8 million compared to $96.9 million in 2006. This increase was
          attributable to increase in Magics revenues which were offset by a
          decrease in Sapienss revenues.

Cost
of Revenues. Cost of revenues consists primarily of wages and related expenses and
hardware and other materials costs. Cost of revenues increased 19% from $309.4 million in
2006 to $369.1 million in 2007. As a percentage of revenues, cost of revenues were
relatively at the same level in 2006 and in 2007, 74% and 75%, respectively. Our software
services sales are generally characterized by a lower gross margin than sales of
proprietary software solutions. Cost of revenues for proprietary software solutions were
$52.9 million in 2007 and $53.8 million in 2006. Cost of revenues for software services
increased 24% from $255.6 million in 2006 to $316.1 million in 2007, primarily due to the
increase in the cost of revenues of our subsidiaries Matrix and nextSource.

Software
Development Costs, net. Software development costs consist primarily of wages and
related expenses and, to a lesser degree, consulting fees we pay to independent
contractors engaged in research and development. Software development costs, net, consist
of software development costs, gross, less capitalized software costs. Software
developments costs, gross, in 2007 and 2006 were $12.6 million and $14.0 million,
respectively. In 2007, we capitalized software costs of $6.2 million compared to $8.5
million in 2006. Capitalization of software costs in 2007 was attributable to our
proprietary software solutions subsidiaries. Software development costs, net, increased
from $5.5 million in 2006 to $6.5 million in 2007. As a percentage of revenues, software
development costs, net remained at the same level of 1.3% in 2006 and 2007. The increase
in software development costs was attributable primarily to Magic and Sapiens which had
research and development expenditures of approximately $2.7 million and $3.5 million,
respectively. Amortization of capitalized software costs was $6.4 million in 2007 and $8.9
million in 2006, which amounts were included in cost of revenues.

Selling,
General and Administrative Expenses. Selling, general and administrative expenses
consist primarily of salaries, severance and related expenses, travel expenses, selling
expenses, rent, utilities, depreciation, amortization and professional fees. Selling,
general and administrative expenses in 2007 and 2006 were $90.5 million and $88.8 million,
respectively. As a percentage of revenues, selling, general and administrative expenses
were 18.3% in 2007 and 21.3% in 2006. The increase in selling, general and administrative
expenses was primarily attributable to an increase in selling, general and administrative
expenses of Matrix which was offset by a decrease in selling, general and administrative
expenses of Sapiens and Magic.

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Restructuring
Costs.We had norestructuring costs in 2007.Restructuring costs in
2006 were $2.9 million and were primarily attributable to restructuring activities of
Magic, which had restructuring costs of $2.1 million, and Sapiens which had restructuring
costs of $758,000. The restructuring costs of Magic resulted mainly from severance
payments paid in connection with the restructuring and impairment plan announced by Magic
in the third quarter of 2006, which aimed to reduce costs and improve profitability.

Operating
Income. Our operating income increased from $10.1 million in 2006 to $27.2 million in
2007. The operating income in 2007 was attributable to the improvement in the operating
results of all of our subsidiaries, and in particular Matrix which had operating income of
$24.5 million, Magic which had operating income of $1.3 million and Sapiens which had
operating income $800,000. The operating income in 2006 was attributable to the
improvement in the operating results of our subsidiaries, and in particular Matrix which
had operating income of $19.2 million and a decrease in the net operating loss of Sapiens,
which had operating loss of $1.3 million. This improvement was offset by the operating
loss of $6.7 million of Magic.

Financial
Expenses, net. Financial expenses, net decreased from $4.6 million in 2006 to $3.8
million in 2007. Financial expenses, net, is influenced by various factors, including our
cash balances, loan balances, changes in the exchange rate of the NIS against the dollar,
changes in the exchange rate of the dollar against the euro and changes in the Israeli
CPI. Financial expenses, net in 2007 are attributable to interest expenses incurred by our
subsidiaries, Matrix and Sapiens, which had financial expenses of $2.1 million and $2.8
million, respectively, resulting from issuance of debentures. These expenses were offset
by financial income in Formula which resulted from interest derived from short-term
deposits and exchange rate differentials.

Other
income (expenses), net. Other expenses, net in 2007 and 2006 were $750,000 and $1.1
million, respectively.

Gain
on Realization of Shareholdings. Gain on realization of shareholdings in 2007 was $2.0
million compared to $3.7 million in 2006. Gain on realization of shareholdings in 2007 was
primarily attributable to a gain from a decrease in our shareholding in Sapiens due to a
private placement consummated by Sapiens. Gain on realization of shareholdings in 2006 was
attributable primarily to the sale by Matrix of its holdings in Matrix-1 One Ltd. and the
decrease in the percentage of shareholdings by Matrix of its subsidiary, Tiltan, which
resulted in aggregate consideration of approximately $4.0 million.

Taxes
on Income. Taxes on income in 2007 were $1.9 million compared to $3.8 million in 2006.
The decrease in taxes on income in 2007 was mainly attributable to the decrease in taxes
of Matrix.

Companys
Equity in Results of Affiliates, net. Our equity in losses of affiliates, net were
$653,000 in 2007 compared to a gain of $47,000 in 2006. Equity in losses of affiliates in
2006 was attributable primarily to equity in losses of affiliates of Matrix.

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Minority
Interest, net. Minority interest, net, includes the minority interest in companies
which are not wholly owned by the Formula Group during each of the periods indicated.
Minority interest in profits of subsidiaries in 2007 was $9.7 million compared to $4.8
million in 2006. This increase was primarily attributable to the improvement in the
results of all of our subsidiaries, and, in particular, Matrix, Magic and Sapiens.

Year
Ended December 31, 2006 Compared to Year Ended December 31, 2005

Revenues.
          Revenues increased 14% from $365.8 million in 2005 to $416.8 million in 2006.
          Revenues from the two categories of our operation were as follows: Revenues
from           the delivery of software services increased 16% from $274.9 million in
2005 to           $320.0 million in 2006. This increase was attributable to the growth in
          Matrixs and nextSources revenues due to an increased demand for
          their services. Revenues from the sale of proprietary software solutions in
2006           were $96.9 million compared to $90.9 million in 2005, an increase of 7%.
This           was due to an increase in Sapiens revenues. Magics revenues
remained           relatively the same in 2006 and 2005.

Cost
of Revenues. Cost of revenues increased 16% from $266.2 million in 2005 to $309.4
million in 2006. As a percentage of revenues, cost of revenues was relatively at the same
level in 2005 and in 2006, 73% and 74%, respectively. Cost of revenues for proprietary
software solutions increased 13% to $53.8 million in 2006 from $47.7 million in 2005,
primarily due to the increase in the cost of revenues of all of our proprietary software
solutions subsidiaries. Cost of revenues for software services increased 17% from $218.6
million in 2005 to $255.6 million in 2006, primarily due to the increase in the cost of
revenues of our subsidiaries Matrix and nextSource.

Software
Development Costs, net. Software developments costs, gross, remain at the same level
in 2005 and 2006, $14.5 million and $14.0 million, respectively. In 2006, we capitalized
software costs of $8.5 million compared to $8.4 million in 2005. Capitalization of
software costs in 2006 was attributable to our proprietary software solutions
subsidiaries. Software development costs, net, decreased from $6.1 million in 2005 to $5.5
million in 2006. As a percentage of revenues, software development costs, net remained at
approximately the same level in 2006 and 2005, 1.3% and 1.7%, respectively. The decrease
in software development costs was attributable primarily to Matrix and Sapiens.
Amortization of capitalized software costs were $8.9 million in 2006 and $7.4 million in
2005, which amounts were included in cost of revenues.

Selling,
General and Administrative Expenses. Selling, general and administrative expenses in
2006 and 2005 were $88.8 million and $86.7 million, respectively. As a percentage of
revenues, selling, general and administrative expenses were 21% in 2006 and 24% in 2005.
The increase in selling, general and administrative expenses was primarily attributable to
an increase in selling, general and administrative expenses of Matrix which was offset by
a decrease in selling, general and administrative expenses of Sapiens and Magic.

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Restructuring
Costs.Restructuring costs in 2006 were $2.9 million and were primarily attributable
to restructuring activities of Magic, which had restructuring costs of $2.1 million, and
Sapiens which had restructuring costs of $758,000. The restructuring costs of Magic
resulted mainly from severance payments paid in connection with the restructuring and
impairment plan announced by Magic in the third quarter of 2006, which aimed to reduce
costs and improve profitability. Restructuring costs in 2005 were $1.5 million and were
primarily attributable to restructuring activities of Sapiens which had restructuring
costs of $1.1 million and Magic which had restructuring costs of $342,000. The
restructuring costs of Sapiens resulted from the lay-off of approximately 40 employees.

Operating
Income. Our operating income increased from $5.4 million in 2005 to $10.1 million in
2006. The operating income in 2006 is attributable to the improvement in the operating
results of our subsidiaries, and in particular Matrix, which had operating income of $19.2
million and a decrease in the net operating loss of Sapiens, which had operating loss of
$1.3 million. The improvement was offset by the operating loss of $6.7 million of Magic.
The operating income in 2005 was attributable to the improvement in the operating results
of our subsidiaries, and in particular Matrix, which had operating income of $17.0 million
and nextSource. The improvement in 2005 was offset by the operating loss of $5.6 million
of Magic and the operating loss of $5.5 million of Sapiens.

Financial
Expenses, net. Financial expenses, net increased from $2.1 million in 2005 to $4.7
million in 2006. The increase in financial expenses in 2006 resulted from interest
expenses incurred by our subsidiaries, and in particular, Sapiens which had financial
expenses of $2.2 million. This increase in our financial expenses was offset by a decrease
in the financial expenses of Matrix and Magic.

Other
income (expenses), net. Other expenses, net in 2006 were $1.1 and other income, net in
2005 was $341,000.

Gain
on Realization of Shareholdings. Gain on realization of shareholdings in 2006 was $3.7
million compared to $3.2 million in 2005. Gain on realization of shareholdings in 2006 was
attributable primarily to the sale by Matrix of its holdings in Matrix One and the
decrease in the percentage of shareholdings by Matrix of its subsidiary, Tiltan, which
resulted in aggregate consideration of approximately $4.0 million. Gain on realization of
shareholdings in 2005 was attributable to the sale of a portion of the shares of Matrix in
the open market which resulted in gain to Formula of $1.7 million, and gain from a
decrease in our shareholding in Matrix due to the conversion of Matrix debentures into
shares by third parties which resulted in gain to Formula of $1.6 million.

Taxes
on Income. Taxes on income in 2006 were $3.8 million compared to $4.7 million in 2005.
The decrease in taxes on income in 2006 was mainly attributable to the decrease in taxes
of Sapiens.

Companys
Equity in Results of Affiliates, net. Our equity in gains of affiliates, net were
$47,000 in 2006 compared to $62,000 in 2005.

Minority
Interest, net. Minority interest in profits of subsidiaries in 2006 was $4.8 million
compared to minority interest in losses of subsidiaries of $189,000 in 2005. This change
was primarily attributable to the improvement in the results of certain of our
subsidiaries.

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Impact of Inflation and
Currency Fluctuations on Results of Operations

A
significant portion of our worldwide sales are currently denominated in dollars and
euros., while a substantial portion of our expenses, principally salaries and related
personnel expenses, are in New Israeli Shekels (NIS). As a result, a decrease in the value
of the dollar or euro relative to other foreign currencies, in particular the NIS would
increase our operating costs and, therefore, could adversely affect our results and harm
our competitive position in the markets. In recent periods, the value of the dollar and
the euro was decreased significantly in relation to the NIS. We cannot know whether this
trend would continue in the future. If the dollar or euro value in relation to the NIS
continues to decrease, our operating costs would increase, and in turn, our results of
operation may be harmed. To date, we have not engaged in significant hedging transactions.
In the future, we may enter into currency hedging transactions to decrease the risk of
financial exposure from fluctuations in the exchange rate of the dollar or euro against
the NIS. However, we cannot assure you that these measures will adequately protect us from
material adverse effects arising from the impact of inflation in Israel.

Following
is a summary of the most relevant monetary indicators for the reported periods:

| | For the year ended December
31, | Inflation rate in Israel | Devaluation of NIS against
the US$ | Devaluation of euro
against the US$
| | ------------------------------- | ------------------------ | ---------------------------------- | -----------------------------------
|
|
|
|
| | 2005                            |                          |                                    |                                    
| | 2006                            |                          |                                    |                                    
| | 2007                            |                          |                                    |                                    
| |                                 |                          |                                    |                                    

|B. | Liquidity
and Capital Resources
|-- | -------------------------------

Since
inception, we have financed our growth and business primarily through cash provided by
operations and through public debt and equity offerings, as well as through private and
public debt and equity offerings of our subsidiaries. In addition, we finance our business
through short-term and long-term loans and borrowings available under our credit
facilities.

Cash

At
December 31, 2007 we had cash and cash equivalents and short-term investments of $201.8
million and at December 31, 2006, we had cash and cash equivalents and short-term
investments of $118.6 million. At December 31, 2007, we had indebtedness to banks and
others of $50.6 million, of which $27.0 million was current liabilities and $23.7 million
was long-term liabilities. At December 31, 2006, we had indebtedness to banks and others
of $99.7 million, of which $40.4 million was current liabilities and $59.3 million was
long-term liabilities.

48

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Our
subsidiaries maintain credit facilities with banks in accordance with their cash
requirements. These credit facilities include, inter alia, certain covenants related to
their operations, such as maintaining a minimum level of shareholders equity and
reaching certain operating results targets. Some of our subsidiaries assets are
pledged to the lender banks. If any of our subsidiaries does not meet the covenants
specified in its credit agreement, and a waiver with respect to the fulfillment of such
covenant has not been received from the lender bank, the lender bank may foreclose on the
pledged assets to satisfy the debt.

Cash
flow provided by operating activities in 2007 was $43.2 million compared to cash flow
provided by operating activities of $26.0 million in 2006. Cash flow provided by operating
activities in 2007 was primarily comprised of $23.2 million provided by Matrix, $7.1
million by Sapiens and $7.9 million by Magic. Cash flow provided by operating activities
in 2006 was primarily comprised of $15.0 million provided by Matrix, and $10 million
provided by BluePhoenix.

Financing activities

Cash
flow provided by financing activities in 2007 was $12.9 million compared to cash flow used
in financing activities of $4.0 million in 2006. This was mainly the result of the
following transactions:

In
August 2007, Matrix completed an offering of debentures to institutional and other
investors in Israel, in an aggregate principal amount of approximately $62.0 (NIS 250
million). In February 2008, Matrix listed the debentures for trading on the TASE.

In
June 2007, Sapiens entered into a private placement investment transaction with several
institutional investors, private investors and Formula for an aggregate gross investment
amount of $20 million (excluding finders fees and out of pocket expenses), $6.5
million of which was by Formula.

In
2007, Matrix distributed to its shareholders a cash dividend in the aggregate amount of
approximately $14.1 million, of which $6.4 million was received by Formula.

During
2007, Formula and certain of our subsidiaries repaid long-term loans to banks of
approximately $61.6 million, of which $50.9 million was repaid by Formula and $9.4 million
was repaid by Matrix.

During
2007, Formula and certain of our subsidiaries repaid short-term loans to banks of
approximately $16.9 million, of which $5.4 million was repaid by Formula, $4.8 million was
repaid by Matrix and $4.6 million was repaid by Sapiens.

In
2007, Sapiens re-purchased an aggregate amount of NIS 15 million nominal value of its
debentures, representing approximately $3.5 million. In addition, Sapiens paid to its
debentures holders $4.4 million representing the second payment of the principal of the
debentures (Series A).

49

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In
December 2006, Formula distributed to its shareholders a dividend consisting of 36,696,000
shares of Formula Vision held by Formula and representing approximately 57% of the
outstanding share capital of Formula Vision. Formula Vision shares were distributed at a
ratio of 2.78 shares of Formula Vision for every one outstanding ordinary share of
Formula, prior to withholding taxes. As a result, we no longer hold an interest in Formula
Vision.

On
December 31, 2006, Formula Vision paid approximately $51 million to us, as a full
repayment of the principal and interest owed to us by Formula Vision.

In
April 2006, we repaid the outstanding amount of the debentures issued by us to FIMI and
IDB. The aggregate amount repaid by us was approximately $3.6 million.

In
March 2006, BluePhoenix completed a $3 million follow-on private placement of convertible
debentures and warrants to certain institutional investors, who previously invested in
BluePhoenix in 2004.

In
March 2006, Matrix distributed to its shareholders a cash dividend in the aggregate amount
of approximately $3.0 million, of which $1.5 million was received by Formula.

In
February 2006, BluePhoenix completed a public offering in Israel of convertible debentures
convertible into BluePhoenix ordinary shares, resulting in gross proceeds to BluePhoenix
of approximately $11.5 million.

In
2006, Formula and certain of our subsidiaries received long-term loans of approximately
$31.4 million from banks, of which $11.8 million was received by Formula, $14.4 million by
BluePhoenix and $4.9 million by Matrix.

In
2006, our subsidiaries repaid long-term loans to banks and others of approximately $9.7
million of which $8.0 million was repaid by Matrix and $1.1 million by Sapiens.

Recent financing
activities

In
April 2008, Formula distributed to its shareholders a cash dividend of approximately $0.76
per share. The aggregate amount distributed by Formula was approximately $10 million.

Investing activities

In
2007, net cash used in investing activities was $18.8 million and in 2006, net cash
provided by investing activities was $6.2 million. These investing activities were
comprised of the following transactions:

50

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In
June 2007, we completed the sale of our entire shareholdings in BluePhoenix to
international institutional investors for aggregate consideration of approximately $64
million.

In
2007, we purchased in the open market shares of several of our subsidiaries as follows:
1,231,563 shares of Matrix for aggregate consideration of $4.3 million, 503,473 shares of
Magic for aggregate consideration of $1.0 million and 195,107 shares of Sapiens for
aggregate consideration of $326,535.

In
2007, Matrix purchased marketable securities for aggregate consideration of $26.3 million

In 2007,
our subsidiaries capitalized software development costs and other costs in an aggregate
amount of $8.5 million.

In
February 2006, Formula Vision sold certain of its holdings in its affiliate, FIS Software
Ltd., to a third party for a consideration of $4.0 million.

In
February 2006, Formula Vision sold the activities of its subsidiary T-Soft Ltd. for a
consideration of $3.0 million.

In
March 2006, Formula Vision sold certain of its holdings in its affiliate Transtech Ltd. to
a third party for a consideration of $8.75 million.

In
April 2006, Formula Vision paid to FIMI and IDB$5.4 million in accordance with agreements
between the parties.

In
August 2006, we invested $2.0 million in Sapiens in consideration for 1,562,500 common
shares of Sapiens issued to us by Sapiens.

In
2006, we purchased in the open market shares of several of our subsidiaries as follows:
624,216 shares of Matrix for aggregate consideration of $1.9 million, 3,622,697 shares of
Formula Vision for aggregate consideration of $1.3 million and 252,400 shares of Sapiens
for aggregate consideration of $336,686.

In
2006, we converted warrants of Matrix into 704,592 shares of Matrix for consideration of
$1.3 million.

In
2006, our subsidiaries capitalized software development costs and other costs in an
aggregate amount of $18.8 million.

We
believe that the net cash proceeds we raised by financing activities, together with cash
flows from operating activities, will be sufficient to meet our cash needs for the next 12
months at the current level of operations. We will consider in the future additional
equity issuances, debt issuances or borrowings from banks if necessary to meet cash needs
for our growth.

51

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Commitments and
Contingent Liabilities

Some
of our subsidiaries have floating charges in favor of banks and other financial
institutions. In addition, some of our subsidiaries have liens on leased vehicles, leased
equipment and other assets in favor of the leasing companies.

Other Contractual
Commitments

We
entered into an undertaking to indemnify our office holders in specified limited
categories of events and in specified amounts, subject to certain limitations. For more
information, see Item 7. Major Shareholders and Related Party
TransactionsRelated Party TransactionsIndemnification of Office Holders.

Related Party Transactions

On
December 31, 2006, Formula Vision paid approximately $51 million to us, as a full
repayment of the principal of the debentures issued by Formula Vision to Formula in 2001
and 2002, including interest accrued thereon.

Effective Corporate Tax
Rates in Israel

Law for the
Encouragement of Capital Investments, 1959

Certain
of the companies in the Formula Group have been granted Approved Enterprise status under
the Law for the Encouragement of Capital Investments, 1959, known as the Investment Law.
Accordingly, if these companies comply with certain requirements, they are eligible for
certain tax benefits for the first seven years in which they generate taxable income.
Income derived from these companies Approved Enterprise programs will be tax exempt
for a period of two years after the companies have taxable income. They will also be
subject to a 25% company tax rate for the following five years. Under certain
circumstances, if the percentage of the share capital that foreign shareholders hold in
subsidiaries and affiliates of these companies exceeds 25%, future Approved Enterprises of
the applicable subsidiary or affiliate would qualify for reduced tax rates for an
additional three years, after the seven years mentioned above. We cannot assure you that
these companies will obtain approval for additional Approved Enterprises, that the
provisions of the Investment Law will not change, or that the above-mentioned shareholding
portion will be reached or maintained for each subsequent year.

On
April 1, 2005, the Israeli Parliament passed an amendment to the Investment Law, in which
it revised the criteria for investments qualified to receive tax benefits. An eligible
investment program under the amendment will qualify for benefits as a privileged
enterprise (rather than the previous terminology of approved enterprise). Among other
things, the amendment provides tax benefits to both local and foreign investors and
simplifies the approval process. If the investment programs of the Formula Group companies
comply with the requirements of the law, they will be entitled to certain tax benefits. We
cannot assure you that any additional investment program adopted by any of these companies
in the future will comply with the requirements of the law or that the tax benefits for
investment programs continue at current levels.

52

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Corporate Tax

Following
the tax reform enacted in 2003, an Israeli company is subject to tax on its worldwide
income. An Israeli company that is subject to Israeli taxes on the income of its
non-Israeli subsidiaries will receive a credit for income taxes paid by the subsidiary in
its country of residence. Israeli tax payers are also subject to tax on income from a
controlled foreign corporation, according to which an Israeli company may become subject
to Israeli taxes on certain income of a non-Israeli subsidiary, if such subsidiarys
primary source of income is a passive income (such as interest, dividends, royalties,
rental income, or capital gains).

On
January 1, 2006, an additional tax reform took place relating primarily to profits from
investments. The main goal of the reform was to unify the tax rates applicable to profits
from investments, such as interest, capital gains, and dividends. In addition, under the
new reform, the tax rates applicable to companies were reduced to 29% in 2007, 27% in
2008, 26% in 2009, and 25% from 2010 and on.

Our
international operations are taxed at the local effective corporate tax rate in the
countries of our subsidiaries residence. In the future we may derive an increasing
percentage of our income from operations outside of Israel. If that occurs, our effective
tax rate may increase. However, we expect that this increase will be offset by carried
forward accumulated losses of consolidated companies.

|C. | Research
and Development, Patents and Licenses
|-- | ----------------------------------------------

In
2007, we spent $6.5 million on research and development activities, in 2006 we spent $5.5
million and in 2005 we spent $6.1 million. The increase in the amount spent on research
and development activities in 2007 compared to 2006 relates primarily to an increase in
research and development expenditures of Sapiens. The decrease in the amount spent on
research and development activities in 2006 compared to 2005 resulted from a decrease in
the development expenditures of Sapiens and Matrix in 2006. For more information about our
research and development activities, see Item 4. Information on the
CompanyBusiness OverviewSoftware Development.

For
information concerning our intellectual property rights, see Item 4. Information on
the CompanyBusiness OverviewIntellectual Property Rights.

|D. | Trend
Information
|-- | -----------------

Economic
changes such as the U.S. subprime mortgage loan crisis and the economic instability caused
by the rise in oil prices, are affecting companies willingness, in both the U.S. and
in Europe, to make capital spending on IT projects. We cannot know whether IT capital
spending and investment in IT projects will continue in the future at the same level, or
how the economic conditions will affect our business. Accordingly, we cannot assure you
that we will be able to increase our revenues or keep our revenues at the same level as in
2007. As we continue to market new products and penetrate international markets, we expect
our selling, general and administrative expenses to continue to be relatively high.

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|E. | Off-Balance
Sheet Arrangements
|-- | ------------------------------

We
do not have any off-balance sheet arrangements.

|F. | Tabular
Disclosure of Contractual Obligations
|-- | ---------------------------------------------

The
following table summarizes our contractual obligations and commitments as of December 31,
2007.

|                                         | Payments due by period
|---------------------------------------- | ----------------------
|
|
|
|
|Long-term debt obligations (2)           |                       
|                                         |                       
|Lease obligations                        |                       
|                                         |                       
|Liability in respect of the acquisition  |                       
|of activities                            |                       
|                                         |                       
|Other long-term liabilities reflected on |                       
|our balance sheet under U.S. GAAP        |                       
|                                         |                       
|                                         |                       
|Total                                    |                       
|                                         |                       
|                                         |                       

---

|(1) | Other
obligations include severance pay which was not funded by the Company, the           due
date of which is unknown.
|--- | ------------------------------------------------------------------------------------------------------------------------

|(2) | Does
not include accrued interest.
|--- | ----------------------------------

|G. | Safe
Harbor
|-- | -----------

The
safe harbor provided in Section 27A of the Securities Act and Section 21E of the
Securities Exchange Act of 1934, as amended, referred to as the Exchange Act, shall apply
to forward-looking information provided in Items 5.E and F.

# ITEM 6. DIRECTORS,
SENIOR MANAGEMENT AND EMPLOYEES

|A. | Directors
and Senior Management
|-- | -------------------------------

The
following table describes information about our directors and senior management as of June
20, 2008.

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|Name                   | Age | Position                            
|---------------------- | --- | ------------------------------------
|
|
|
|
|Guy Bernstein          | 40  | Chief Executive Officer and Director
|Naamit Salomon         | 44  | Chief Financial Officer             
|Shimon Laor            | 39  | Director                            
|Tal Barnoach           | 45  | Director                            
|Hadas Gazit Kaiser     | 32  | Director                            
|Dr. Shlomo Nass        | 48  | Director                            
|Dr. Ronnie Vinkler (1) | 62  | Director                            
|Ofer Lavie (1)         | 63  | Director                            
|                       |     |                                     

---

(1)    
          Outside director. See Item 6. Directors, Senior Management and
          EmployeesBoard PracticesOutside Directors; Audit Committee; Internal
          Auditor; Approval of Certain Transactions Under the Companies Law, below.

Guy
Bernstein has served as one of our directors since November 2006 and was appointed our
chief executive officer in January 2007. Since December 2006, Mr. Bernstein has served as
the chief executive officer of Emblaze, our controlling shareholder, a publicly-traded
company listed on the AIM, the London Stock Exchange. Mr. Bernstein also serves as a
director of Sapiens and he is the chairman of the board of Matrix and Magic. From April
2004 to December 2006, Mr. Bernstein served as the chief financial officer of Emblaze and
he has served as a director of Emblaze since April 2004. Prior thereto, Mr. Bernstein
served as the chief financial and operations officer of Magic, a position he held since
1999. He joined Magic from Kost Forer Gabbay & Kasierer, a member of Ernst & Young
Global, where he acted as senior manager from 1994 to 1997. Mr. Bernstein holds a B.A.
degree in accounting and economics from Tel Aviv University and is a certified public
accountant in Israel.

Naamit
Salomon has served as our chief financial officer since 1997. Ms. Salomon also serves
as a director of Magic and Sapiens. From 1990 through August 1997, Ms. Salomon was a
controller of two large, privately-held companies in the Formula Group. Ms. Salomon holds
a B.A. degree in economics and business administration from Ben Gurion University and an
LL.M. degree from the Bar-Ilan University.

Shimon
Laorhas served as one of our directors since November 2006. He also served as a
director of Emblaze and as its chief financial officer from 1995 to 2000. Since then, he
has been engaged in private business initiatives. Mr. Laor also serves as a director of
Emblaze VCON Ltd. and Visual Defence Inc., partially-owned subsidiaries of Emblaze. Prior
to joining Emblaze in August 1995, Mr. Laor served as an economist at the head office
foreign currency division of the First International Bank of Israel. Mr. Laor holds a B.A.
degree in economics and accounting from Tel Aviv University.

Tal
Barnoach has served as one of our directors since November 2006. Since 1994, Mr.
Barnoach has served as chairman and chief executive officer of S.E.A. Multimedia, a
publicly-traded company listed on the AIM. In addition, he serves as the chief executive
officer of BeInSync, a company he co-founded in 2002. Mr. Barnoach also serves as the
executive vice chairman of zone IP of Emblaze. Since 1999, Mr. Barnoach has served as
chairman of Orca Interactive Ltd. Mr. Barnoach holds a B.A. degree in economics from Tel
Aviv University.

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Hadas
Gazit Kaiser has served as one of our directors since March 2007. Ms. Gazit Kaiser has
served as the chief financial officer and finance director of Emblaze since December 2006.
During 2005 and 2006, she served as the vice president, finance of Emblaze and the chief
financial officer of Emblaze Mobile. From 2003 to 2005, Ms. Gazit Kaiser served as the
budget control manager of TTI Team Telecom International Ltd., a NASDAQ-listed company.
Prior thereto, Mrs. Gazit Kaiser acted as a manager at Kost, Forer Gabbay & Kasierer.
Mr. Gazit Kaiser is a director of Magic, Sapiens, Matrix and Rad View Software Ltd. Ms.
Gazit Kaiser holds a B.A. degree in economics and accounting and an M.B.A. degree in
finance, both from Tel Aviv University, and she is a certified public accountant in
Israel.

Dr.
          Shlomo Nasshas served as one of our directors since April 2003. Dr. Nass
is           a senior partner at Dr. Shlomo Nass and Co. Ltd., and a president of and a
          partner in I.G.B.  Israel Global Business, an investment group. Mr. Nass
          performed various public duties and serves as a director of I.G.B., IRS-TKB
          International Consultants Ltd., Mivnei Taasiya Ltd., Ayalon Insurance Company
          Ltd., TAO, N.M.C. and Yuli Shukei Hon Ltd. Mr. Nass holds a B.Sc. degree in
          economics and accounting, an LL.B. degree, and a Ph.D degree in law, all from
          Bar-Ilan University. He is a certified public accountant in Israel and a member
          of the Israel Bar.

Dr.
          Ronnie Vinkler has served as one of our outside directors since March 2007.
          Dr. Vinkler is an independent business development and management analysis
          consultant. He has many years of experience in the Hi-tech industry, projects
          management and research and development. Dr. Vinkler also serves as a director
          of Mofet Israel Technology Fund Ltd. In 2002 and 2003, Dr. Vinkler served as
          general manager of Icom Mobile (Israel). From 2000 to 2002, he served as
general           manager of B.I.S. Advanced Software Solutions Ltd. Dr. Vinkler holds a
B.Sc.           degree in Aeronautical Engineering and Industrial Engineering and
Management           from the Technion, Israel Institute of Technology, and a M.Sc. and
Ph.D in           Aeronautical Engineering from Caltech, California Institute of
Technology.

Ofer
Lavie has served as one of our outside directors since March 2007. Mr. Lavie is an
independent financial business development consultant. From 1999 to 2005, Mr. Lavie served
as the chief financial officer of Metalink Ltd., a public company listed on the NASDAQ
Global Market and the TASE. Mr. Lavie also serves as a director of Yozma Pension Fund for
Self Employed Ltd., a Migdal Group fund, and of Alpa Cosmetics Ltd. Mr. Lavie also serves
as an outside director of Procognia (Israel) Ltd., a public company traded on the TASE. In
addition, Mr. Lavie serves as the chief executive officer of the Education Center in the
CFO Forum in Israel Mr. Lavie holds a B.Sc. degree in economics from Tel Aviv University.

|B. | Compensation
|-- | ------------

In
2007, we paid to our directors and officers (nine persons) aggregate direct remuneration
of approximately $2.6 million. This amount includes amounts set aside or accrued to
provide post-employment benefits.

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This
amount does not include the following:

| |  | amounts
expended by us for automobiles made available to our officers;
| | - | ----------------------------------------------------------------------

| |  | expenses,
including business travel, professional and business association dues and expenses, that
we                 reimburse our officers for; and
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------

| |  | other
fringe benefits that companies in Israel commonly reimburse or pay to their officers.
| | - | -------------------------------------------------------------------------------------------

The
amount also includes payment of directors fees to our outside directors and Mr.
Shlomo Nass. We compensate our outside directors in accordance with the regulations
promulgated under the Israeli Companies Law, 1999, referred to as the Companies Law. We
compensate Mr. Shlomo Nass in such amounts specified in the regulations.

Our
employee directors do not receive fees for their services as directors. In 2007, we paid
an aggregate amount of $61,200 for post-employment benefits for our executive officers and
directors. Under Israeli law, we are not required to disclose, and have not otherwise
disclosed, the compensation of our senior management and directors on an individual basis.

Generally,
we enter into written employment agreements with our executive officers pursuant to which,
among other things, we pay them a monthly salary in an agreed amount. The salary is linked
to the Israeli CPI. Each party may terminate the agreement upon 3 to 6 months prior
notice. If we terminate any of these employment agreements, we will have to pay the usual
severance pay required under Israeli law for all employees.

In
January 2008, we entered into a service agreement with Mr. Guy Bernstein, our chief
executive officer and director. Under this agreement, beginning in 2008, Mr. Bernstein
shall be entitled to an annual bonus in an amount equal to 3.3% of our net profit
(including capital gains) after tax. An advance of 70% of the bonus shall be paid
quarterly, based on our quarterly financial statements, subject to final adjustment at the
end of each year. The aforementioned bonus shall be paid to Mr. Bernstein so long as he
serves in a senior leading position with Formula, whether as an active chairman, president
or otherwise (after he ceases to serve as our chief executive officer). In the event that
we terminate our relationship with Mr. Bernstein in a senior leading position, Mr.
Bernstein shall be paid the remaining 30% for the past quarters and an additional payment
in an amount equal to 100% of the bonus for the next two quarters, based on our net profit
in the two quarters prior to the notice of termination. Under the terms of the service
agreement, Mr. Bernstein shall be entitled to a 180-day prior notice of termination. Mr.
          Bernstein was granted, for his services as a director, options to purchase
          198,000 ordinary shares, each exercisable at an exercise price of NIS 60 per
          share (not linked to the CPI) (approximately $16.35). The options vest over a
          four-year period, commencing on the date of Mr. Bernsteins appointment to
          serve as a director (i.e. November 20, 2006), on a quarterly basis. The
          options shall expire six years of the date of grant. The terms of Mr.
          Bernsteins employment were approved by the general meeting of
          shareholders, following the approval of our audit committee and board of
          directors.

57

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In
addition, in light of the active role taken by Mr. Bernstein in our operations during his
service as active chairman of the board, in 2007, our shareholders approved, following our
audit committee and board approval, the payment to Mr. Bernstein of a one-time bonus in an
amount equal to 3.3% of our net profit (including capital gains) after tax, for the year
ended December 31, 2007, as compensation for his services as chairman of the board during
the abovementioned period.

|C. | Board
Practices
|-- | ---------------

Pursuant
to our articles of association, directors are elected at the annual general meeting of
shareholders by a vote of the holders of a majority of the voting power represented at the
meeting. Our board is comprised of 7 persons, of which the following three have been
determined by the board to be independent within the meaning of the applicable NASDAQ
requirements: Shlomo Nass, Ronnie Vinkler and Ofer Lavie. The board includes two outside
directors mandated under Israeli law and subject to additional criteria to help ensure
their independence. See Outside Directors below. Each director, except for the
outside directors, holds office until the next annual general meeting of shareholders.
Officers are appointed by our board of directors. For information regarding the employment
agreements of our officers, see Item 6. Directors, Senior Management and
EmployeesCompensation.

Companies
trading on The NASDAQ Global Market are generally required to have a majority of their
board members be independent. We are exempt from this requirement under the
controlled company exemption because more than 50% of our voting power is held
by Emblaze.

Outside Directors

Under
the Companies Law, companies incorporated under the laws of Israel whose shares have been
offered to the public in or outside of Israel, are required to appoint at least two
outside directors. This law provides that a person may not be appointed as an outside
director if the person or the persons relative, partner, employer or any entity
under the persons control, has, as of the date of the persons appointment to
serve as outside director, or had, during the two years preceding that date, any
affiliation with the company or any entity controlling, controlled by or under common
control with the company. The term affiliation includes:

| |  | an
employment relationship;
| | - | ---------------------------

| |  | a
business or professional relationship maintained on a regular basis;
| | - | ----------------------------------------------------------------------

| |  | control;
and
| | - | ------------

| |  | service
as an office holder.
| | - | ----------------------------

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No
person may serve as an outside director if the persons position or other business
activities create, or may create, a conflict of interest with the persons
responsibilities as an outside director or may otherwise interfere with the persons
ability to serve as an outside director or if the person is an employee of the Israel
Securities Authority or of an Israeli stock exchange. If, at the time of election of an
outside director, all other directors are of the same gender, the outside director to be
elected must be of the other gender.Outside directors are to be elected by a
majority vote at a shareholders meeting, provided that either:

| |  | the
majority of shares voted at the meeting, including at least one-third of the shares of
non-controlling shareholders voted at the meeting, vote in favor of election of the
director; or
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | the
total number of shares of non-controlling shareholders voted against the election of the
director does not exceed one percent of the aggregate voting rights in the company.
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Pursuant
to the Companies Law, all outside directors must have financial and accounting expertise
or professional qualifications, and at least one outside director must have financial and
accounting expertise. The terms financial and accounting expertise and
professional qualifications are defined in regulations promulgated under the
Companies Law. Our audit committee member, Ronnie Vinkler, is considered to have the
required professional qualifications and Shlomo Nass has financial and accounting
expertise.

The
initial term of an outside director is three years and may be extended by the general
meeting of shareholders, for an additional three years. In March 2007, Mr. Ronnie Vinkler
and Mr. Ofer Lavie were appointed as our outside directors, each to hold office until
March 2010. In accordance with the Israeli Companies Regulations (Alleviation for Public
Companies Whose Shares are Listed on a Stock Exchange Outside of Israel) 2000, dual listed
companies, like us, may re-appoint an outside director for additional three-year terms,
above the maximum six-year term permitted under the Companies Law, if the audit committee
and the board of directors confirm that due to the expertise and special contribution of
the outside director to the work of the board and its committees, his re-appointment is in
the best interests of the company.

Each
committee of a companys board of directors is required to include at least one
outside director and the audit committee must include all the outside directors.

An
outside director is entitled to compensation as provided in regulations promulgated under
the Companies Law and is otherwise prohibited from receiving any compensation, directly or
indirectly, in connection with services provided as an outside director.

Qualifications of
Other Directors

Under
the Companies Law, the board of directors of a publicly traded company is required to make
a determination as to the minimum number of directors who must have financial and
accounting expertise according to criteria that is defined in regulations promulgated
under the Companies Law, effective as of January 2006. In accordance with the Companies
Law, the determination of the board should be based on, among other things, the type of
the company, its size, the volume and complexity of its activities and the number of
directors. Based on the foregoing considerations, our board determined that the number of
directors with financial and accounting expertise in our company shall not be less than
one.

59

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Audit Committee

The
Companies Law requires public companies to appoint an audit committee, comprised of at
least three directors, including all of the outside directors. The chairman of the board
of directors, any director employed by or otherwise providing services to the company, and
a controlling shareholder or any relative of a controlling shareholder, may not be a
member of the audit committee.

In
addition, under applicable NASDAQ rules, we are currently required to have at least three
independent directors and to maintain an audit committee, whose members are independent of
management. We have established an audit committee, consisting of our two outside
directors, Ronnie Vinkler andOfer Lavie, as well as Shlomo Nass. Each audit
committee member qualifies as an independent director under the applicable NASDAQ rules
and those of the SEC. The board has determined that Shlomo Nass is an audit
committee financial expert as defined by applicable SEC regulations. See Item
16. Audit Committee Financial Expert.

Under
the Companies Law, the audit committee is responsible for overseeing the business
management practices of the company in consultation with the companys internal
auditor and the independent auditor, making recommendations to the board to improve such
practices and approving related party transactions as required by the Companies Law. In
accordance with the Sarbanes-Oxley Act and NASDAQ requirements, our audit committee is
directly responsible for the appointment, compensation, retention and oversight of our
independent auditors, subject to shareholder approval as required under Israeli law. In
addition, the audit committee is responsible for assisting the board in monitoring our
financial statements and the effectiveness of our internal controls. We have adopted a
formal audit committee charter that we have implemented, embodying these responsibilities.

Internal Auditor

Under
the Companies Law, the board of directors must appoint an internal auditor, nominated by
the audit committee. The role of the internal auditor is to examine, among other matters,
whether the companys actions comply with the law and orderly business procedure.
Under the Companies Law, the internal auditor may be an employee of the company but not an
office holder, or an interested party (i.e., a holder of 5% or more of the voting
rights in the company or of the issued share capital, the chief executive officer of the
company or any of its directors, or a person who has the authority to appoint the
companys chief executive officer or any of its directors), or a relative of an
office holder or of an interested party. In addition, the companys independent
auditor or its representative may not serve as the companys internal auditor.

60

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Exculpation,
Insurance and Indemnification of Directors and Officers

Under
the Companies Law, an Israeli company may not exempt an office holder from liability with
respect to a breach of his duty of loyalty, but may exempt in advance an office holder
from his liability to the company, in whole or in part, with respect to a breach of his
duty of care, provided, however, that such a breach is not related to a distribution of a
dividend or any other distribution by the company.

Office
Holders 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 imposed on the office holder in respect of an act
performed in his or her capacity as an office holder, with respect to:

| |  | a
breach of his duty of care to us or to another person;
| | - | --------------------------------------------------------

| |  | a
breach of his duty of loyalty to us, provided that the office holder acted in good faith
and had reasonable cause to assume that his act would not prejudice our interests; or
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | a
financial liability imposed upon him in favor of another person.
| | - | ------------------------------------------------------------------

We
have obtained an insurance policy covering the Formula Groups directors and
officers liability. Our subsidiaries participate in the premium payments of the
insurance, on a proportional basis. The total premium we paid during 2007 was
approximately $200,000.

Indemnification
of Office Holders. Our articles of association provide that we may indemnify an office
holder in respect of an obligation or expense imposed on or expended by an office holder
in respect of an act performed in his capacity as an office holder as specified below:

| | (i) | a
financial liability imposed on him in favor of another person by any judgment,
               including a settlement or an arbitrators award approved by a court;
| | --- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | (ii) | reasonable
litigation expenses, including attorneys fees, expended by the
               office holder as a result of an investigation or proceeding instituted
against                him by a competent authority, provided that such investigation or
proceeding                concluded without the filing of an indictment against him, and
either (i)                concluded without the imposition of any financial liability in
lieu of criminal                proceedings; or (ii) concluded with the imposition of a
financial liability in                lieu of criminal proceedings but relates to a
criminal offense that does not                require proof of criminal intent; and
| | ---- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | (iii) | reasonable
litigation expenses, including attorneys fees, expended by the
               office holder or charged to him by a court, in proceedings instituted
against                him by another person, or in a criminal charge from which he was
acquitted or in                any criminal proceedings of a crime which does not require
proof of criminal                intent in which he was convicted.
| | ----- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

61

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We
may undertake to indemnify an office holder as aforesaid, (a) prospectively, provided that
in respect of (i) above, the undertaking is limited to categories of events that in the
opinion of our board of directors are foreseeable in light of the companys
operations at the time that the undertaking to indemnify is given, and for an amount or
criteria that our board has determined as reasonable under the circumstances, and further
provided that such events and amount or criteria are indicated in the indemnification
undertaking, but in any event no more than 25% of Formulas shareholders equity
according to its most recent financial statements as of the date of the actual payment of
indemnification; and (b) retroactively.

Limitations
on Exemption, Insurance and Indemnification. The Companies Law provides that a company
may not indemnify an office holder, enter into an insurance contract which would provide
coverage for any monetary liability, or exempt an office holder from liability, with
respect to any of the following:

| |  | a
breach by the office holder of his duty of loyalty unless 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 duty of care if the breach was done intentionally or
recklessly, except for a breach that was made in negligence;
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | any
act or omission done with the intent to derive an illegal personal benefit; any fine
levied against the office holder; or
| | - | -----------------------------------------------------------------------------------------------------------------------------

| |  | a
counterclaim made by the company or in its name in connection with a claim against the
company filed by the office holder.
| | - | ----------------------------------------------------------------------------------------------------------------------------

In
addition, under the Companies Law, indemnification of, and procurement of insurance
coverage for, our office holders must be approved by our audit committee and our board of
directors and, in specified circumstances, by our shareholders.

We
have entered into an undertaking to indemnify our office holders in specified limited
categories of events and in specified amounts, subject to the limitations set by the
Companies Law and our articles of association, as described above. For more information,
see Item 7.B. Related Party Transactions  Indemnification of Office
Holders.

Approval of Certain
Transactions Under the Companies Law

The
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 (i)
avoiding any conflict of interest between the office holders position in the company
and his personal affairs, (ii) avoiding any competition with the company, (iii) avoiding
exploiting any business opportunity of the company in order to receive personal advantage
for himself or others, and (iv) 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. Each person listed in the table under Directors and
Senior Management above is an office holder. Under the Companies Law, arrangements
regarding the compensation of directors require the approval of the audit committee, the
board of directors and shareholder approval.

62

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The
Companies Law requires that an office holder of a 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 the Companies
Law, 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. In addition, the office holder must
also disclose any interest held by any corporation in which the office holder owns 5% or
more of the share capital, is a 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.

Under
the Companies Law, after the office holder complies with the disclosure requirements
described above, only board approval is required for any transaction which is not an
extraordinary transaction, unless the articles of association of the company provide
otherwise, and provided the transaction is not adverse to the companys interest. If
the transaction is an extraordinary transaction, the company must receive any approval
stipulated by the articles of association, the approval of the companys audit
committee and the approval of the board of directors, as well as, under certain
circumstances, approval by a meeting of the shareholders of the company. An office holder
who has a personal interest in a matter which is considered at a meeting of the board of
directors or the audit committee may not be present at this meeting or vote on this matter
unless the majority of the board members or members of the audit committee, as applicable,
have a personal interest in such matter and in such case, the matter should also be
approved by the shareholders of the company.

The
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
in the company 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 or its relative who is an office holder or an employee of the
company, require the approval of the audit committee, the board of directors and the
shareholders of the company. The shareholder approval must include at least one-third of
the shareholders who have no personal interest in the transaction and are voting on the
subject matter or, alternatively, the total shareholdings of those who have no personal
interest in the transaction who vote against the transaction must not represent more than
one percent of the voting rights in the company. In certain cases provided in regulations
promulgated under the Companies Law, shareholder approval is not required.

The
approvals of the board of directors and shareholders is required for a private placement
of securities (or a series of related private placements during a 12-month period or that
are part of one continuous transaction or transactions conditioned upon each other) in
which:

63

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| | the
securities issued represent at least 20% of the companys actual voting power prior
to the issuance of such securities, and such issuance increases the relative holdings of
a 5% shareholder or causes any person to become a 5% shareholder, and the consideration
in the transaction (or a portion thereof) is not in cash or in securities listed on a
recognized stock exchange, or is not at a fair market value; or
|- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | a
person would become, as a result of such transaction, a controlling shareholder of the
company.
|- | -------------------------------------------------------------------------------------------------

|D. | Employees
|-- | ---------

We
have approximately 4,950 full-time employees, of whom approximately 4,260 are software
professionals. Most of our employees are located in Israel and the other in the United
States, Europe and other places abroad. In 2006, we had approximately 5,290 full-time
employees, of whom approximately 4,550 were software professionals. In 2005, we had
approximately 4,090 full-time employees, of whom approximately 3,520 were software
professionals. The decrease in the number of employees in 2007 compared to 2006 related
primarily to the decrease in the number of employees in Magic, Sapiens and ,in particular,
nextSource, which was offset by an increase in the number of employees in Matrix. The
increase in the number of employees in 2006 compared to 2005 related primarily to the
increase in the number of employees in Matrix and, in particular, nextSource, which was
offset by a decrease in the number of employees in Magic and Sapiens.

With
respect to our employees in Israel, we are subject to various Israeli labor laws and labor
practices, and to administrative orders extending certain provisions of collective
bargaining agreements between the Histadrut (Israels General Federation of Labor)
and the Coordinating Bureau of Economic Organizations (the Israeli federation of
employers organizations) to all private sector employees. For example, mandatory
cost of living adjustments, which compensate Israeli employees for a portion of the
increase in the Israeli consumer price index, are determined on a nationwide basis.
Israeli law also requires the payment of severance benefits upon the termination,
retirement or death of an employee. We meet this requirement by (i) contributing on an
ongoing basis towards managers insurance funds that combine pension,
insurance and, if applicable, severance pay benefits and (ii) payment of differences, if
applicable. In addition, Israeli employers and employees are required to pay specified
percentages of wages to the National Insurance Institute. Other provisions of Israeli law
or regulation govern matters such as the length of the workday, minimum wages, other terms
of employment and restrictions on discrimination. We are also subject to the labor laws
and regulations of other jurisdictions in the world where we have employees.

|E. | Share
Ownership
|-- | ---------------

As
of June 20, 2008, none of our directors and officers had a share ownership in our company,
nor did they hold options to purchase shares, except for Mr. Guy Bernstein, our chief
executive officer and director, as described below.

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Mr.
          Bernstein was granted, for his services as a director, options to purchase
          198,000 ordinary shares, each exercisable at an exercise price of NIS 60 per
          share (approximately $16.35). The options vest over a four-year period,
          commencing on the date of Mr. Bernsteins appointment to serve as a
          director (i.e.November 20, 2006), on a quarterly basis. The options
          shall expire six years of the date of grant. As of June 20, 2008, Mr. Bernstein
          is the beneficial owner of 74,250 ordinary shares underlying currently
          exercisable options or options exercisable within 60 days of the date of this
          annual report.

# Arrangements Involving
the Issue or Grant of Options to Purchase Shares

Formulas 2008
Share Option Plan

In
March 2008, our shareholders approved the adoption of Formulas 2008 Employee and
Office Holders Share Option Plan, referred to as the plan. Pursuant to the plan, we may
grant from time to time to our and our subsidiaries employees and office holders
(which are not Formulas controlling shareholders) options to purchase up to 400,000
ordinary shares of Formula. The plan is administered by our board of directors. The plan
provides that options may be granted, from time to time, to such grantees to be determined
by the board, at an exercise price and under such terms to be determined at their sole and
absolute discretion. Options may be granted under the plan through January 2018.

Of
the options available for grant under the plan, we granted in March 2008, options to
purchase 198,000 ordinary shares to our chief executive officer and director, each
exercisable at an exercise price of $16.35 (60 NIS). For more information, see Item
6.B. Compensation.

Option Plans of Our
Subsidiaries

Our
operating subsidiaries generally have share option plans pursuant to which qualified
directors, employees and consultants may be granted options for the purchase of securities
in these subsidiaries. In addition, these subsidiaries may from time to time grant options
to third parties as part of a business transaction.

# ITEM 7. MAJOR
SHAREHOLDERS AND RELATED PARTY TRANSACTIONS

|A. | Major
Shareholders
|-- | ------------------

The
following table presents information regarding the ownership of our ordinary shares at
June 20, 2008 by each person known to us to be the beneficial owner of more than 5% of our
ordinary shares based on information provided to us by the holders or disclosed in public
filings with the SEC. None of the holders of the ordinary shares listed in this table have
voting rights different from other holders of our ordinary shares. Except where we have
indicated otherwise, we believe, based on information furnished by these owners, that the
beneficial owners of our shares listed below have sole investment and voting power with
respect to the shares.

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|Name and Address                             | Shares Beneficially
Owned | Percent of
Class (1)
|-------------------------------------------- | ------------------------- | --------------------
|
|
|
|
|Emblaze Ltd.(2)                              |                           |                     
|                                             |                           |                     
|Menora Mivtachim Holdings Ltd.(3)            |                           |                     
|                                             |                           |                     
|Clal Insurance Enterprises Holdings Ltd. (5) |                           |                     
|                                             |                           |                     

---

|(1) | Ordinary
shares deemed beneficially owned by virtue of the right of any person           or group
to acquire these ordinary shares within 60 days of June 20, 2008, are           treated
as outstanding only for the purposes of determining the percent owned by           this
person or group. Percentages in the above table are based on 13,200,000
          ordinary shares outstanding as of June 20, 2008.
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(2) | In
November 2006, Emblaze Ltd., referred to as Emblaze, purchased from FIMGold           LP
all of its shareholdings in Formula, i.e. 33.4% of our outstanding           share
capital. Since then and until June 20, 2008, Emblaze purchased additional
          shares of Formula in the open market and in privately negotiated transactions,
          bringing its holdings in Formula to 50.1% as of June 20, 2008. Emblaze is a
          public company traded on the AIM. The major shareholders of Emblaze, based on
          publicly available and other information (i.e., persons that hold 5% or
          more of the share capital of the Emblaze) are Naftali Shani, the chairman of
the           board of directors of Emblaze (who holds approximately 13.9% of the
outstanding           share capital of Emblaze) and Eli Reifman, vice-chairman of the
board of           directors of Emblaze (who holds approximately 15.4% of the outstanding
share           capital of Emblaze).
|--- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(3) | Menora
Mivtachim Holdings Ltd. is a holding company publicly-traded on the TASE.
          63.56% of Menora Mivtachim Holdings outstanding shares are held, directly
          and indirectly, by Menachem Gurevitch, and 36.44% is held by the public.
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(4) | Pursuant
to Amendment No. 1 to Schedule 13D filed on February 1, 2007.
|--- | ----------------------------------------------------------------------

|(5) | Clal
Insurance Enterprises Holdings Ltd., referred to as Clal Insurance, is           publicly
traded on the TASE. The controlling shareholder of Clal Insurance is           IDB
Development Corporation Ltd. (57.4%) and Bank Hapoalim Ltd. holds a 10.1%
          interest in Clal Insurance.
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(6) | Pursuant
to Schedule 13G/A filed on February 14, 2008, of the 1,047,367 shares           reported
as beneficially owned by Clal Insurance (i) 1,008,067 shares are held           for
members of the public through, among others, provident funds, mutual funds,
          pension funds and insurance policies, which are managed by subsidiaries of Clal
          Insurance, each of which subsidiaries operates under independent management and
          makes independent voting and investment decisions; and (ii) 39,300 shares are
          beneficially held by Clal Finance Ltd. for its own account.
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

As
of June 20, 2008, 13,200,000 ordinary shares were issued and outstanding, excluding 24,780
ordinary shares that we purchased during 2002. On June 20, 2008, we had approximately 2
shareholders of record. All of our ordinary shares have equal voting rights. However,
under applicable Israeli law, the shares we hold have no voting rights and, therefore, are
excluded from the number of our outstanding shares.

As
of June 20, 2008, 315,542 ADSs were issued and outstanding pursuant to a depositary
agreement with The Bank of New York, representing 315,542 of our ordinary shares. As of
that date, there were approximately 17 registered holders of ADSs in the United States.

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|B. | Related
Party Transactions
|-- | --------------------------

Indemnification of
Office Holders

In
December 2005, the general meeting of shareholders approved the grant of new
indemnification letters to our office holders following the amendment of the Companies Law
adopted in March 2005 and the changes in our articles of association approved by the
general meeting in December 2005.

The
indemnification letters provide, among other things, that we will indemnify each of our
office holders to the maximum extent permitted by our articles of association. Advance
payments for coverage of legal expenses in criminal proceedings will be required to be
repaid by our office holders to the company if such office holder is found guilty of a
crime which requires proof of criminal intent, or if it is determined that the office
holder is not lawfully entitled to such indemnification.

All
of the indemnification letters granted to our office holders are identical, including
indemnification letters granted to office holders who are or may be considered
controlling persons under the Companies Law.

The
indemnification is limited to the expenses and matters detailed in the indemnification
letters insofar as they result from the office holders actions which includes, among
other things, the following matters: the offering of securities by us to the public or to
private investors, the offer by us to purchase securities from the public, private
investors or other holders, whether pursuant to a prospectus, agreement, tender or any
other proceeding; occurrences resulting from being a public company, or from the fact that
our securities were offered to the public and traded on the NASDAQ and on the TASE, and
occurrences in connection with investments.

Our
undertaking for indemnification is limited to up to 25% of our shareholders equity
as it appears in our latest financial statements known at the date of indemnification.

Our
undertaking for indemnification shall not apply to a liability incurred as a result of any
of the following:

| | (i) | a
breach by the office holder of his or her duty of loyalty, unless the office
               holder acted in good faith and had a reasonable basis to believe that the
act                would not prejudice the company;
| | --- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | (ii) | a
breach by the office holder of his or her duty of care if the breach was done
               intentionally or recklessly;
| | ---- | ---------------------------------------------------------------------------------------------------------------------------

| | (iii) | any
act or omission done with the intent to derive an illegal personal benefit;
               or
| | ----- | -------------------------------------------------------------------------------------------------

| | (iv) | any
fine levied against the office holder.
| | ---- | ------------------------------------------

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We
shall not be required to indemnify an office holder, if the office holder, or anyone on
its behalf, already received payment in respect of a liability subject to indemnification,
under an effective insurance coverage or an effective indemnification arrangement with a
third party, provided, however, that if such payment made to the office holder does not
cover the entire liability subject to the indemnification, we shall indemnify the office
holder in respect of the difference between the amount paid to the office holder and the
liability subject to the indemnification.

Office Holders
Insurance

We
have obtained an insurance policy covering the Formula Groups directors and
officers liability. Our subsidiaries participate in the premium payments of the
insurance, on a proportional basis. The total premium Formula paid during 2007 was
approximately $200,000.

Other Transactions

From
time to time, in our ordinary course of business, we engage in transactions with our
subsidiaries and affiliates. We believe that these agreements are made on an arms
length basis upon terms and conditions no less favorable to us, our subsidiaries and
affiliates, as we could obtain from unaffiliated third parties. If we engage with our
subsidiaries and affiliates in transactions which are not in the ordinary course of
business, we receive the approvals required under the Companies Law. These approvals
include audit committee approval, board approval and, in certain circumstances,
shareholder approval. See Item 6.C. Board Practices.

|C. | Interests
of Experts and Counsel
|-- | --------------------------------

Not applicable.

# ITEM 8. FINANCIAL
INFORMATION

|A. | Consolidated
Statements and Other Financial Information
|-- | -------------------------------------------------------

Financial
Statements

Our
consolidated financial statements and other financial information are incorporated herein
by reference to Item 18. Financial Statements below.

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Legal
Proceedings

We
are not involved in any proceedings in which any of our directors, members of our senior
management or any of our affiliates is either a party adverse to us or to our subsidiaries
or has a material interest adverse to us or to our subsidiaries. We are also not involved
in any legal proceedings which may have, or have had in the recent past, significant
effects on our financial position or profitability.

Dividend
policy

Under
Formulas dividend policy adopted by its board of directors, sums that are not
planned to be used for investments in the near future, will be distributed to the
shareholders as a cash dividend, to the extent that our performance allows such
distribution. In recent years, we have made the following distributions:

In
April 2008, Formula distributed to its shareholders a cash dividend of approximately $0.76
per share. The aggregate amount distributed by Formula was approximately $10 million.

In
December 2006, Formula distributed to its shareholders a dividend consisting of 36,696,000
shares of Formula Vision held by Formula and representing approximately 57% of the
outstanding share capital of Formula Vision. Formula Vision shares were distributed at a
ratio of 2.78 shares of Formula Vision for every one outstanding ordinary share of
Formula, prior to withholding taxes.

In
June 2005, Formula distributed to its shareholders a cash dividend in the amount of
approximately $4 per ordinary share, or approximately $50.2 million in the aggregate.

|B. | Significant
Changes
|-- | -------------------

There
has been no material change in our financial position since December 31, 2007.

# ITEM 9. THE OFFER AND
LISTING

|A. | Offer
and Listing Details
|-- | -------------------------

Price
Range of Ordinary Shares

The
following table sets forth the high and low closing price for our ordinary shares on the
TASE, for the periods indicated. The exchange rate reported by the Bank of Israel on June
20, 2008 was NIS 3.354 = $1.00.

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|Period                 | Closing Price Per Share
|---------------------- | -----------------------
|
|
|
|
|2003                   |                        
|2004                   |                        
|2005                   |                        
|2006                   |                        
|First Quarter          |                        
|Second Quarter         |                        
|Third Quarter          |                        
|Fourth Quarter         |                        
|2007                   |                        
|First Quarter          |                        
|Second Quarter         |                        
|Third Quarter          |                        
|Fourth Quarter         |                        
|December               |                        
|2008                   |                        
|First Quarter          |                        
|January                |                        
|February               |                        
|March                  |                        
|April                  |                        
|May                    |                        
|June (through June 20) |                        
|                       |                        

Price
Range of American Depositary Shares

The
following table sets forth, for the periods indicated, the high and low closing sale
prices for the ADSs, as reported by the NASDAQ Global Market.

|Period                 | Closing Price Per Share
|---------------------- | -----------------------
|
|
|
|
|2003                   |                        
|2004                   |                        
|2005                   |                        
|2006                   |                        
|First Quarter          |                        
|Second Quarter         |                        
|Third Quarter          |                        
|Fourth Quarter         |                        
|2007                   |                        
|First Quarter          |                        
|Second Quarter         |                        
|Third Quarter          |                        
|Fourth Quarter         |                        
|December               |                        
|2008                   |                        
|First Quarter          |                        
|January                |                        
|February               |                        
|March                  |                        
|April                  |                        
|May                    |                        
|June (through June 20) |                        
|                       |                        

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|B. | Plan
of Distribution
|-- | --------------------

Not applicable.

|C. | Markets
|-- | -------

Since
our initial public offering in 1991, our ordinary shares have been traded in Israel on the
TASE under the symbol FORT. No U.S. trading market exists for the ordinary
shares. Since October 1997, our ADSs have been traded on the NASDAQ Global Market, under
the symbol FORTY.

Pursuant
to NASDAQ Marketplace Rule 4350(a), we notified NASDAQ that with respect to the quorum for
shareholders meetings, we follow Israeli law and practice and accordingly do not follow
NASDAQ rules. The quorum for a shareholders meeting, as stipulated in our articles of
association, complies with the provisions of the Israeli law, and requires the presence,
in person or by proxy of holders of 25% of our outstanding ordinary shares, in lieu of the
requirement specified in NASDAQ Marketplace Rule 4350(e) pursuant to which the quorum for
any shareholders meeting shall not be less than 33?% of the outstanding voting shares of
the company.

|D. | Selling
Shareholders
|-- | --------------------

Not applicable.

|E. | Dilution
|-- | --------

Not applicable.

|F. | Expenses
of the Issue
|-- | ---------------------

Not applicable.

# ITEM 10. ADDITIONAL
INFORMATION

|A. | Share
Capital
|-- | -------------

Not applicable.

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|B. | Memorandum
and Articles of Association
|-- | --------------------------------------

We
are registered with the Israeli Companies Register under the number 52-003669-0. Our
objects are specified in our memorandum of association. These objects include:

| |  | operating
within the field of informational and computer systems;
| | - | -----------------------------------------------------------------

| |  | providing
management, consulting and sale services for computers, computer               equipment,
software for computers and for information systems;
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | the
business of systems analysis, systems programming and computer programming;
              and
| | - | -------------------------------------------------------------------------------------------------

| |  | establishing
facilities for instruction and training for computers and digital               systems.
| | - | -----------------------------------------------------------------------------------------------------

Description
of Our Share Capital

Our
company share capital consists of ordinary shares. Our articles of association do not
restrict in any way the ownership of our ordinary shares by non-residents, except that
these restrictions may exist with respect to citizens of countries which are in a state of
war with Israel.

Dividend
and Liquidation Rights

Our
board of directors is authorized to declare dividends, subject to the provisions of the
Companies Law. Dividends on our ordinary shares may be paid only out of profits and other
surplus, as defined in the Companies Law, as of the end date of the most recent financial
statements or as accrued over a period of two years, whichever is higher. Alternatively,
if we do not have sufficient profits or other surplus, then permission to effect a
distribution can be granted by order of an Israeli court. In any event, our board of
directors is authorized to declare dividends, provided there is no reasonable concern that
the dividend will prevent us from satisfying our existing and foreseeable obligations as
they become due. Dividends may be paid in cash or in kind. We may invest or use for our
own benefit all unclaimed dividends. If dividends remain unclaimed for seven years from
the date we declared the dividend they lapse and revert back to us. Our board of directors
can cause us to pay the dividend to a holder who would have been entitled if the dividend
had not reverted back to us. In case of liquidation, after satisfying liabilities to
creditors, our assets will be distributed to the holders of ordinary shares in proportion
to their holdings. This right may be affected by the grant of a preferential dividend or
distribution rights to the holders of a class of shares with preferential rights that may
be authorized in the future. Under the Companies Law, the declaration of a dividend does
not require the approval of the shareholders of the company, unless the companys
articles of association require otherwise. Our articles of association provide that our
board of directors may declare and pay dividends without any further action of our
shareholders.

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Redemption
Provisions

In
accordance with our articles of association, we may issue redeemable shares and
accordingly redeem those shares.

Voting,
Shareholder Meetings and Resolutions

Holders
of our ordinary shares have one vote for each ordinary share held on all matters submitted
to the vote of shareholders. These voting rights may be affected by the grant of any
special voting rights to the holders of a class of shares with preferential rights that
may be authorized in the future. Under the Companies Law, shares held by the company are
not entitled to any rights so long as they are held by the company.

We
must hold an annual general meeting once a year with a maximum period of fifteen months
between the meetings. All other meetings of shareholders other than annual general
meetings are considered special general meetings. Our board of directors may call a
special general meeting whenever it decides it is appropriate. In addition, shareholders
representing 5% of the outstanding share capital may require the board of directors to
call a special general meeting. The quorum required for a general meeting of shareholders
consists of two or more holders present in person or by proxy who hold or represent at
least 25% of the voting power. A meeting adjourned for a lack of a quorum generally is
adjourned to the same day in the following week at the same time and place or any time and
place as the chairman of the meeting may decide with the consent of the holders of a
majority of the voting power represented at the meeting in person or by proxy and voting
on the question of adjournment. At the reconvened meeting, if a quorum is not present
within half an hour from the time appointed for holding the meeting, the required quorum
will consist of two shareholders present in person or by proxy.

Under
the Companies Law, unless otherwise provided in the articles of association or applicable
law, all resolutions of the shareholders require a simple majority, except in certain
circumstances provided for under the Israeli law, which require a majority of at least 75%
of the shares present at the meeting.

Shareholder
Duties

Under
the Companies Law, a shareholder has a duty to act in good faith towards the company in
which he holds shares and towards other shareholders and to refrain from abusing his power
in the company including voting in the general meeting of shareholders on:

| |  | any
amendment to the articles of association;
| | - | ---------------------------------------------

| |  | an
increase of the company's authorized share capital;
| | - | ------------------------------------------------------

| |  | a
merger; or
| | - | ------------

| |  | approval
of some of the acts and transactions which require shareholder approval.
| | - | ---------------------------------------------------------------------------------

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A
shareholder has the general duty to refrain from depriving rights of other shareholders.
Any controlling shareholder, any shareholder who knows that it possesses the power to
determine the outcome of a shareholder vote and any shareholder that, under the provisions
of the articles of association, has the power to appoint an office holder in the company,
is under a duty to act in fairness towards the company. The rules pertaining to a breach
of contract apply to a breach of the duty to act in fairness, mutatis mutandis, bringing
into account the shareholders position in the company. The Companies Law does not
describe the substance of this duty.

Transfer
of Shares

Fully
paid ordinary shares are issued in registered form and may be freely transferred under our
articles of association unless the transfer is restricted or prohibited by another
instrument.

Modification
of Class Rights

Under
our articles of association, the rights attached to any class unless otherwise provided by
the terms of the class including voting, rights to dividends and the like, may be varied
by adoption of the necessary amendment to the articles of association, provided that the
affected shareholders approve the change by a class meeting in which a simple majority of
the voting power of the class represented at the meeting and voting on the matter approves
the change.

Election
of Directors

Our
ordinary shares do not have cumulative voting rights in the election of directors. As a
result, the holders of ordinary shares that represent more than 50% of the voting power
represented at a shareholders meeting, have the power to elect all of our directors, other
than the outside directors which are appointed by a special majority of shareholders. For
a summary of those provisions in our articles of association with respect to the
directors, see Item 6. Directors, Senior Management and Employees.

Anti-Takeover
Provisions; Mergers and Acquisitions Under Israeli Law

Mergers

The
Companies Law permits merger transactions if approved by each partys board of
directors and shareholders. In determining whether the required majority has approved the
merger in the event of cross ownership between the merging companies, namely,
if the merging companys shares are held by the other party to the merger, or by any
person holding at least 25% of the means of control of the other party to the merger, then
a vote against the merger by holders of the majority of the shares present and voting,
excluding shares held by the other party to the merger or by such person, or anyone acting
on behalf of either of them, including any of their affiliates, is sufficient to reject
the merger transaction. In the event that the merger transaction has not been approved by
the special majority described above, the holders of at least 25% of the voting rights of
such company may apply to the court for approval of the merger. The court may approve the
merger if it is found that the merger is fair and reasonable, taking into account the
value of the parties to the merger and the consideration offered to the shareholders. Upon
the request of a creditor of either party to the proposed merger, the court may delay or
prevent the merger. A merger may not be consummated unless at least 50 days have passed
from the time that a proposal for approval of the merger has been filed with the Israeli
Registrar of Companies and 30 days have passed from the date of the approval of the
shareholders of the merging companies.

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The
Companies Law further provides that the foregoing approval requirements will not apply to
shareholders of a wholly-owned subsidiary in a rollup merger transaction, or to the
shareholders of the acquirer if:

| | the
transaction does not involve an amendment to the acquirer's memorandum or articles of
       association;
|- | -------------------------------------------------------------------------------------------------------------

| | the
transaction does not contemplate the issuance of more than 20% of the voting rights of
the acquirer which would result in any shareholder becoming a controlling shareholder;
and
|- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | there
is no cross ownership of shares of the merging companies, as described above.
|- | -------------------------------------------------------------------------------------

Tender Offers

The
Companies Law provides that an acquisition of shares of a public company must be made by
means of a tender offer if as a result of the acquisition, the purchaser would become a
holder of 25% or more of the voting rights in the company. This rule does not apply if
there is already another holder of 25% or more of the voting rights in 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 become a holder of more than 45% of the voting rights of the company, if there is no
other holder of more than 45% of the voting rights of the company.

The
foregoing provisions do not apply to:

| | a
private placement in which the companys shareholders approved such holder owning
25% or more of the voting rights in the company (if there is no other shareholder that
holds 25% or more of the voting rights in the company); or more than 45% of the voting
rights in the company (if there is no other shareholder that holds 45% or more of the
voting rights in the company); or
|- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | a
purchase from an existing holder of 25% or more of the voting rights in the company that
results in another person becoming a holder of 25% or more of the voting rights in the
company or a purchase from an existing holder of more than 45% of the voting rights in
the company that results in another person becoming a holder of more than 45% of the
voting rights in the company.
|- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

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Regulations
adopted under the Companies Law provide that these tender offer requirements do not apply
to companies whose shares are listed for trading outside of Israel if, according to the
law in the country in which the shares are traded, including the rules and regulations of
the stock exchange on which the shares are traded, there is either a limitation on
acquisition of any level of control of the company, or the acquisition of any level of
control requires the purchaser to do so by means of a tender offer to the public.

The
Companies Law also provides that if following any acquisition of shares, the acquirer
holds 90% or more of the companys shares or of a class of shares, the acquisition
must be made by means of a tender offer for all the target companys shares or all
the shares of the class, as applicable. An acquirer who wishes to eliminate all minority
shareholders must do so by way of a tender offer and acquire 95% of all shares not held by
or for the benefit of the acquirer before the acquisition. If, however, the tender offer
to acquire 95% is not successful, the acquirer may not acquire shares tendered if by doing
so the acquirer would own more than 90% of the shares of the target company.

|C. | Material
Contracts
|-- | ------------------

We
consider the sale of our shareholdings of BluePhoenix and the transactions with Formula
Vision as material contracts. For more information about these transactions, see
Item 4. Information on the CompanyHistory and DevelopmentCapital
Expenditures and Divestitures.

|D. | Exchange
Controls
|-- | -----------------

Under
current Israeli regulations, we may pay dividends or other distributions in respect of our
ordinary shares either in non-Israeli or Israeli currencies. If we make these payments in
Israeli currency, they will be freely transferred in non-Israeli currencies at the rate of
exchange prevailing at the time of conversion. We expect therefore, that dividends, if
any, that we pay to holders of ADSs, will be paid in dollars, net of conversion expenses,
expenses of the depositary, the Bank of New York, and Israeli income taxes. Because
exchange rates between the NIS and the dollar fluctuate continuously, a U.S. shareholder
will be subject to the risk of currency fluctuations between the date when we declare
NIS-denominated dividends and the date when we pay them in NIS. See Item 3. Key
InformationRisk Factors.

Non-residents
of Israel may freely hold and trade our ADSs or ordinary shares pursuant to the general
permit issued under the Israeli Currency Control Law, 1978. Neither our articles of
association nor the laws of the State of Israel restrict in any way the ownership of our
ordinary shares by non-residents, except that these restrictions may exist with respect to
citizens of countries which are in a state of war with Israel.

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|E. | Taxation
|-- | --------

Israeli
Taxation

The
following is a description of material tax consequences regarding the ownership and
disposition of our ordinary shares and ADSs under Israeli tax laws to which U.S. and other
non-Israeli shareholders may be subject. The information below does not apply to specified
persons or cover specified situations. Therefore, you are advised to consult your own tax
advisor as to particular tax consequences unique to you related to an investment in our
ordinary shares or ADSs, including the effects of applicable Israeli or foreign or other
tax laws and possible changes in the tax laws.

To
the extent that the discussion is based on legislation yet to be judicially or
administratively interpreted, we cannot assure you that the views we express herein will
accord with any such interpretation in the future.

Tax Consequences
Regarding Disposition of Our ADSs or Ordinary Shares

In
general, Israel imposes capital gains tax on the sale of capital assets, including shares
of Israeli companies by both Israeli residents and non-Israeli resident shareholders,
unless a specific exemption is available or unless a tax treaty between Israel and the
shareholders country of residence provide otherwise. Shareholders that are not
Israeli residents are generally exempt from Israeli capital gains tax on any gain derived
from the sale of our ADSs or ordinary shares, provided that (i) such shareholders did
not acquire the shares prior to our initial public offering; and (ii) such gains did
not derive from a permanent establishment of such shareholders in Israel. However,
non-Israeli corporations will not be entitled to the foregoing exemption if an Israeli
resident (a) has a controlling interest of 25% or more in such non-Israeli
corporation; or (b) is the beneficiary of or is entitled to 25% or more of the
revenues or profits of such non-Israeli corporation, whether directly or indirectly.

In
certain instances where our non-Israeli shareholders may be liable to Israeli tax on the
sale of our ADSs or ordinary shares, the payment of the consideration may be subject to
Israeli withholding tax.

In
addition, in the case when the sale, exchange or disposition of our ADSs or ordinary
shares by shareholders who are U.S. residents (within the meaning of the U.S.-Israel
Tax Treaty) holding the ADSs or ordinary shares as a capital asset will be also exempt
from Israeli capital gains tax under the U.S.-Israel Tax Treaty, unless, either
(i) the shareholders hold, directly or indirectly, shares representing 10% or more of
our voting shares during any part of the 12-month period preceding such sale, exchange or
disposition; or (ii) the capital gains arising from such sale, exchange or
disposition are attributable to a permanent establishment of the shareholders located in
Israel. In such case, the shareholders would be subject to Israeli capital gains tax, to
the extent applicable, as mentioned above. However, under the U.S.-Israel Tax Treaty, the
U.S. resident would be permitted to claim a credit for such taxes against the
U.S. federal income tax imposed on the sale, exchange or disposition, subject to the
limitation in the U.S. law applicable to foreign tax credits. The U.S.-Israel Tax
Treaty does not relate to U.S. state or local taxes.

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Taxes Applicable to
Dividends

Nonresidents
of Israel are generally subject to Israeli income tax on the receipt of dividends paid on
our ADSs or ordinary shares at the rate of 20%, or 15% for dividends or income generated
by an approved enterprise, which tax will be withheld at source, unless a different rate
is provided in a treaty between Israel and the shareholders country of residence.

However,
the tax rate on dividends paid to a substantial shareholder (which is someone
who alone, or together with another person, holds, directly or indirectly, at least 10% in
one or all of any of the means of control in the corporation) is 25%.

Under
Israeli tax law, a distribution of dividends from income attributable to an Approved
Enterprise will be subject to tax in Israel at the rate of 15%, which is withheld and paid
by the company paying the dividend, if the dividend is distributed during the benefits
period or within the following 12 years (but the 12-year limitation does not apply to a
Foreign Investors Company). Any distribution of dividends from income that is not
attributable to an Approved Enterprise after January 1, 2006, will be subject to tax in
Israel at the rate of 20%.

Under
the U.S.-Israel Tax Treaty, the maximum rate of tax withheld in Israel on dividends paid
to a holder of our ADSs or ordinary shares who is a U.S. resident (within the meaning
of the U.S.-Israel Tax Treaty) is 25%. However, dividends paid from income derived from
our Approved Enterprise are subject to withholding at the rate of 15%, although we cannot
assure you that we will designate the profits that are being distributed in a way that
will reduce shareholders tax liability according to the U.S.-Israel Tax Treaty.
Furthermore, the maximum rate of withholding tax on dividends not generated by our
Approved Enterprise, that are paid to a U.S. corporation holding 10% or more of our
outstanding voting capital during the part of the tax year that precedes the date of the
payment of the dividend and during the whole of its prior tax year, is 12.5%. This reduced
rate will not apply if more than 25% of our gross income consists of interest or
dividends, other than dividends or interest received from a subsidiary corporation, 50% or
more of the outstanding voting shares of which are owned by the company.

A
nonresident of Israel who receives dividends with respect of which tax was fully paid, is
generally exempt from the duty to file returns in Israel in respect of such income,
provided such income was not derived from a business conducted in Israel by the taxpayer
and the taxpayer has no other taxable sources of income in Israel.

United
States Federal Income Tax Considerations

Subject
to the limitations described herein, this discussion summarizes certain United States
federal income tax consequences of the purchase, ownership and disposition of our ordinary
shares or ADSs to a United States holder. A United States holder is a holder of our
ordinary shares or ADSs who is:

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| |  | an
individual who is a citizen or resident of the United States for United States federal
income tax                   purposes;
| | - | --------------------------------------------------------------------------------------------------------------------------------

| |  | a
corporation (or another entity taxable as a corporation for United States federal income
tax purposes) created or organized under the laws of the United States, any political
subdivision thereof, or the District of Columbia;
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | an
estate, the income of which is subject to United States federal income tax regardless of
its                   source; or
| | - | ----------------------------------------------------------------------------------------------------------------------------

| |  | a
trust (i) if, in general, a United States court is able to exercise primary supervision
over its administration and one or more United States persons have the authority to
control all of its substantial decisions or (ii) that has in effect a valid election
under applicable United States Treasury Regulations to be treated as a United States
person.
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Unless
otherwise specifically indicated, this discussion does not consider the United States tax
consequences to a person that is not a United States holder (a non-United States
holder) and considers only United States holders that will own the ordinary shares
or ADSs as capital assets (generally, for investment).

This
discussion is based on current provisions of the Internal Revenue Code of 1986, as amended
(the Code), current and proposed Treasury Regulations promulgated under the
Code and administrative and judicial interpretations of the Code, all as currently in
effect and all of which are subject to change, possibly with retroactive effect. This
discussion does not address all aspects of United States federal income taxation that may
be relevant to any particular United States holder based on the United States
holders individual circumstances. In particular, this discussion does not address
the United States federal income tax consequences to United States holders who are
broker-dealers or who own, directly, indirectly or constructively, 10% or more of our
outstanding voting shares, United States holders holding the ordinary shares or ADSs as
part of a hedging, straddle or conversion transaction, United States holders whose
functional currency is not the United States dollar, insurance companies, tax-exempt
organizations, financial institutions, financial service entities, persons who
acquired their shares upon the exercise of employee stock options or otherwise as
compensation, real estate investment trusts, regulated investment companies, grantor
trusts, individual retirement and tax-deferred accounts, certain former citizens or
long-term residents of the United States and persons subject to the alternative minimum
tax, who may be subject to special rules not discussed below. Additionally, the tax
treatment of persons who are, or hold the ordinary shares or ADSs through, a partnership
or other pass-through entity is not considered, nor is the possible application of United
States federal estate or gift taxes or any aspect of state, local or non- United States
laws.

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You
are advised to consult your tax advisor with respect to the specific United States
federal, state, local and foreign tax consequences to you of purchasing, holding or
disposing of our ordinary shares or ADSs.

Taxation of Distributions
on the Ordinary Shares or ADSs

Subject
to the discussion below under Tax Consequences if We Are a Passive Foreign
Investment Company, a distribution paid by us with respect to the ordinary shares or
ADSs to a United States holder will be treated as dividend income to the extent that the
distribution does not exceed our current and accumulated earnings and profits, as
determined for United States federal income tax purposes. The amount of the distribution
with respect to the ordinary shares or ADSs will equal the amount of cash and the fair
market value of any property distributed and will also include the amount of any non-U.S.
taxes withheld from such distribution. Dividends that are received by United States
holders that are individuals, estates or trusts will be taxed at the rate applicable to
long-term capital gains (a maximum rate of 15% through taxable years beginning on or
before December 31, 2010), provided that such dividends meet the requirements of
qualified dividend income. For this purpose, qualified dividend income
generally includes dividends paid by a non-U.S. corporation if certain holding period and
other requirements are met and either (a) the stock of the non-U.S. corporation with
respect to which the dividends are paid is readily tradable on an established
securities market in the United States (e.g., the NASDAQ Global Market) or (b) the
non-U.S. corporation is eligible for benefits of a comprehensive income tax treaty with
the United States which includes an information exchange program and is determined to be
satisfactory by the United States Secretary of the Treasury. The United States Internal
Revenue Service (IRS) has determined that the United States-Israel income tax
treaty is satisfactory for this purpose. Dividends that fail to meet such requirements,
and dividends received by corporate United States holders, are taxed at ordinary income
rates. No dividend received by a United States holder will be a qualified dividend
(1) if the United States holder held the ordinary share or ADS with respect to which
the dividend was paid for less than 61 days during the 121-day period beginning on the
date that is 60 days before the ex-dividend date with respect to such dividend, excluding
for this purpose, under the rules of Code Section 246(c), any period during which the
United States holder has an option to sell, is under a contractual obligation to sell, has
made (and not closed) a short sale of, is the grantor of a deep-in-the-money or otherwise
nonqualified option to buy, or has otherwise diminished its risk of loss by holding other
positions with respect to, such ordinary share or ADS (or substantially identical
securities); or (2) to the extent that the United States holder is under an
obligation (pursuant to a short sale or otherwise) to make related payments with respect
to positions in property substantially similar or related to the ordinary share or ADS
with respect to which the dividend is paid. If we were to be a passive foreign
investment company (as such term is defined in the Code), or PFIC, for
any taxable year, dividends paid on our ordinary shares or ADSs in such year or in the
following taxable year would not be qualified dividends. See the discussion below
regarding our PFIC status under Tax Consequences if We Are a Passive Foreign
Investment Company. In addition, a non-corporate United States holder will be able
to take a qualified dividend into account in determining its deductible investment
interest (which is generally limited to its net investment income) only if it elects to do
so; in such case the dividend income will be taxed at ordinary income rates.

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The
amount of any distribution which exceeds the amount treated as a dividend will be treated
first as a non-taxable return of capital, reducing the United States holders tax
basis in its ordinary shares or ADSs to the extent thereof, and then as capital gain from
the deemed disposition of the ordinary shares or ADSs. Corporate holders will not be
allowed a deduction for dividends received in respect of the ordinary shares or ADSs.

Dividends
paid by us in NIS generally will be included in the income of United States holders at the
dollar amount of the dividend (including any Israeli taxes withheld therefrom), based upon
the spot rate of exchange in effect on the date the distribution is received. United
States holders will have a tax basis in NIS for United States federal income tax purposes
equal to that dollar value. A United States holder that converts a dividend paid in NIS
into United States dollars subsequent to receipt will have foreign exchange gain or loss
arising from exchange rate fluctuations, which will generally be taxable as United States
source ordinary income or loss.

Subject
to the limitations set forth in the Code and the Treasury Regulations thereunder, United
States holders may elect to claim as a foreign tax credit against their United States
federal income tax liability, the non-U.S. income tax withheld from dividends received in
respect of the ordinary shares or ADSs. The limitations on claiming a foreign tax credit
include, among others, computation rules under which foreign tax credits allowable with
respect to specific classes of income cannot exceed the United States federal income taxes
otherwise payable with respect to each such class of income. In this regard, dividends
paid by us generally will be foreign source passive income for U.S. foreign
tax credit purposes, or, in the case of a financial services entity, financial
services income (and for the tax years beginning after December 31, 2006 as
general category income). United States holders that do not elect to claim a
foreign tax credit may instead claim a deduction for the non-U.S. income tax withheld if
they itemize deductions. The rules relating to foreign tax credits are complex, and you
should consult your tax advisor to determine whether and to what extent you would be
entitled to this credit. A United States holder will be denied a foreign tax credit for
non-U.S. income tax withheld from a dividend received on the ordinary shares or ADSs (i)
if the United States holder has not held the ordinary shares or ADSs for at least 16 days
of the 31-day period beginning on the date which is 15 days before the ex-dividend date
with respect to such dividend or (ii) to the extent the United States holder is under an
obligation to make related payments with respect to positions in substantially similar or
related property. Any days during which a United States holder has substantially
diminished its risk of loss on the ordinary shares or ADSs are not counted toward meeting
the required 16-day holding period. Distribution of current or accumulated earnings and
profits generally will be foreign source passive income for United States foreign tax
credit purposes.

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Taxation of the
Disposition of the Ordinary Shares or ADSs

Subject
to the discussion below under Tax Consequences if We Are a Passive Foreign
Investment Company, upon the sale, exchange or other disposition of our ordinary
shares or ADSs, a United States holder will recognize capital gain or loss in an amount
equal to the difference between the amount realized on the disposition and the United
States holders tax basis in the ordinary shares or ADSs. The gain or loss recognized
on the disposition will be long-term capital gain or loss if the United States holder held
the ordinary shares or ADSs for more than one year at the time of the disposition and
non-corporate United States holders may be eligible for a reduced rate of taxation
(currently a maximum rate of 15% for taxable years beginning on or before December 31,
2010). Capital gain from the sale, exchange or other disposition of ordinary shares or
ADSs held for one year or less is short-term capital gain and taxed as ordinary income.
Gain or loss recognized by a United States holder on a sale, exchange or other disposition
of ordinary shares or ADSs generally will be treated as U.S. source income or loss for
United States foreign tax credit purposes. The deductibility of capital losses is subject
to certain limitations.

A
United States holder that uses the cash method of accounting calculates the dollar value
of the proceeds received on the sale as of the date that the sale settles. However, a
United States holder that uses the accrual method of accounting is required to calculate
the value of the proceeds of the sale as of the trade date and may therefore realize
foreign currency gain or loss. A United States holder that uses the accrual method may
avoid realizing foreign currency gain or loss by electing to use the settlement date to
determine the proceeds of sale for purposes of calculating the foreign currency gain or
loss. In addition, a United States holder that receives foreign currency upon disposition
of ordinary shares or ADSs and converts the foreign currency into dollars after the
settlement date or trade date (whichever date the United States holder is required to use
to calculate the value of the proceeds of sale) may have foreign exchange gain or loss
based on any appreciation or depreciation in the value of the foreign currency against the
dollar, which will generally be United States source ordinary income or loss.

Tax Consequences if We
Are a Passive Foreign Investment Company

We
will be a passive foreign investment company, or PFIC, for a taxable year if either (1)
75% or more of our gross income in the taxable year is passive income; or (2) the average
percentage (by value) in a taxable year of our assets that produce, or are held for the
production of, passive income is at least 50%. If we own (directly or indirectly) at least
25% by value of the stock of another corporation, we will be treated for purposes of the
foregoing tests as owning our proportionate share of the other corporations assets
and as directly earning our proportionate share of the other corporations income. If
we are a PFIC, a United States holder must determine under which of three alternative
taxing regimes it wishes to be taxed:

| |  | The
QEF regime applies if the United States holder elects to treat us as a qualified
electing fund (QEF) for the first taxable year in which the United
States holder owns our ordinary shares or ADSs or in which we are a PFIC, whichever is
later, and if we comply with certain reporting requirements. If the QEF regime applies,
then each year that we are a PFIC such United States holder will include in its gross
income a proportionate share of the our ordinary earnings (which is taxed as ordinary
income) and net capital gain (which is taxed as long-term capital gain), subject to a
separate election to defer payment of taxes, which deferral is subject to an interest
charge. These amounts would be included in income by an electing United States holder for
its taxable year in which our taxable year ends, whether or not such amounts are actually
distributed to the United States holder. A United States holders basis in our
ordinary shares or ADSs for which a QEF election has been made would be increased to
reflect the amount of any taxed but undistributed income. Generally, a QEF election
allows an electing United States holder to treat any gain realized on the disposition of
his ordinary shares or ADSs as capital gain.
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

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| | Once
made, the QEF election applies to all subsequent taxable years of the United States
holder in which it holds our ordinary shares or ADSs and for which we are a PFIC, and can
be revoked only with the consent of the IRS. The QEF election is made by attaching a
completed IRS Form 8621, including the PFIC annual information statement, to a timely
filed United States federal income tax return. Even if a QEF election is not made, a U.S.
person who is a shareholder in a PFIC must file a completed IRS Form 8621 every year.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | If
a QEF election is made after the first taxable year in which a United States holder holds
our ordinary shares or ADSs and we are a PFIC, then special rules would apply.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | A
second regime, the mark-to-market regime, may be elected so long as our
ordinary shares or ADSs are marketable stock (e.g., regularly
traded on the NASDAQ Global Market). Pursuant to this regime, an electing United
States holders ordinary shares or ADSs are marked-to-market for each year that we
are a PFIC and the United States holder recognizes as ordinary income or loss an amount
equal to the difference as of the close of the taxable year between the fair market value
of our ordinary shares or ADSs and the United States holders adjusted tax basis
therein. Losses are allowed only to the extent of net mark-to-market gain previously
included by the United States holder under the election for prior taxable years. An
electing United States holders adjusted basis in our ordinary shares or ADSs is
increased by income recognized under the mark-to-market election and decreased by the
deductions allowed under the election.
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Under
the mark-to-market election, gain on the sale of our ordinary shares or ADSs is treated
as ordinary income, and loss on the sale of our ordinary shares or ADSs, to the extent
the amount of loss does not exceed the net mark-to-market gain previously included, is
treated as ordinary loss (losses in excess of net mark-to-market gain previously included
are generally capital losses). The mark-to-market election applies to the tax year for
which the election is made and all later tax years, unless the ordinary shares or ADSs
cease to be marketable or the IRS consents to the revocation of the election.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | If
the mark-to-market election is made after the first taxable year in which a United States
holder holds our ordinary shares or ADSs and we are a PFIC, then special rules would
apply.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

83

---

---

| |  | A
United States holder making neither the QEF election nor the mark-to-market election is
subject to the excess distribution regime. Under this regime, excess
distributions are subject to special tax rules. An excess distribution is either
(1) a distribution with respect to ordinary shares or ADSs that is greater than 125% of
the average distributions received by the United States holder from us over the shorter
of either the preceding three years or such United States holders holding period
for our ordinary shares or ADSs, or (2) gain from the disposition of our ordinary shares
or ADSs (including gain deemed recognized if the ordinary shares or ADSs are used as
security for a loan).
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Excess
distributions must be allocated ratably to each day that a United States holder has held
our ordinary shares or ADSs. A United States holder must include amounts allocated to the
current taxable year and to any period prior to the first day of the first taxable year
for which we are a PFIC in its gross income as ordinary income for the current taxable
year. All amounts allocated to other years of the United States holder would be taxed at
the highest tax rate for each such prior year applicable to ordinary income. The United
States holder also would be liable for interest on the deferred tax liability for each
such other year calculated as if such liability had been due with respect to each such
other year. A United States person who inherits shares or ADSs in a non-U.S. corporation
that was a PFIC in the hands of the decedent is generally denied the otherwise available
step-up in the tax basis of such shares or ADSs to fair market value at the date of death.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

We
believe that in 2007 we were not a PFIC and currently we expect that we will not be a PFIC
in 2008. However, PFIC status is determined as of the end of the taxable year and is
dependent on a number of factors, including the value of our assets and the amount and
type of our gross income. Therefore, there can be no assurance that we will not become a
PFIC for the current taxable year ending December 31, 2008 or in a future year. We will
notify United States holders in the event we conclude that we will be treated as a PFIC
for any taxable year to enable United States holders to consider whether or not to elect
to treat us as a QEF for United States federal income tax purposes or to mark to
market the ordinary shares or ADSs or to become subject to the excess
distribution regime.

United
States holders are urged to consult their tax advisors regarding the application of the
PFIC rules, including eligibility for and the manner and advisability of making, the QEF
election or the mark-to-market election.

Information Reporting and
Backup Withholding

A
United States holder generally is subject to information reporting and may be subject to
backup withholding (currently at rate of up to 28% through 2010) with respect to dividend
payments on, or receipt of the proceeds from the disposition of, the ordinary shares or
ADSs. Backup withholding will not apply with respect to payments made to exempt
recipients, including corporations and tax-exempt organizations, or if a United States
holder provides a correct taxpayer identification number, certifies that such holder is
not subject to backup withholding or otherwise establishes an exemption. Backup
withholding is not an additional tax and may be claimed as a credit against the United
States federal income tax liability of a United States holder, or alternatively, the
United States holder may be eligible for a refund of any excess amounts withheld under the
backup withholding rules, in either case, provided that the required information is
furnished to the IRS.

84

---

---

Non-United States holders
of Ordinary Shares or ADSs

Except
as provided below, a non-United States holder of ordinary shares or ADSs will not be
subject to United States federal income or withholding tax on the receipt of dividends on,
and the proceeds from the disposition of, an ordinary share or ADS, unless, in the case of
United States federal income taxes, that item is effectively connected with the conduct by
the non-United States holder of a trade or business in the United States and, in the case
of a resident of a country which has an income tax treaty with the United States, that
item is attributable to a permanent establishment in the United States or, in the case of
an individual, a fixed place of business in the United States. In addition, gain
recognized by an individual non-United States holder upon the disposition of our ordinary
shares or ADSs will be subject to tax in the United States if the non-United States holder
is present in the United States for 183 days or more in the taxable year of the sale and
certain other conditions are met.

Non-United
States holders generally will not be subject to information reporting or backup
withholding with respect to the payment of dividends on, or the proceeds from the
disposition of, ordinary shares or ADSs, provided that the non-United States holder
provides its taxpayer identification number, certifies to its foreign status, or otherwise
establishes an exemption.

|F. | Dividends
and Paying Agents
|-- | ---------------------------

Not applicable.

|G. | Statement
by Experts
|-- | --------------------

Not applicable.

|H. | Documents
on Display
|-- | --------------------

Formula
is subject to the reporting requirements of the Exchange Act that are applicable to a
foreign private issuer. In accordance with the Exchange Act, we file with the SEC reports,
including annual reports on Form 20-F by June 30 each year. In addition, we furnish
interim financial information on Form 6-K on a quarterly basis. We also furnish to the SEC
under cover of Form 6-K certain other material information required to be made public in
Israel, filed with and made public by any stock exchange or distributed by us to our
shareholders. You may inspect without charge and copy at prescribed rates such material at
the public reference facilities maintained by the SEC, at 100 F Street, N.E., Washington,
D.C. 20549. You may also obtain copies of such material from the SEC at prescribed rates
by writing to the Public Reference Section of the SEC, 100 F Street, N.E., Washington,
D.C. 20549. Please call the SEC at 1-800-SEC-0330 for further information on the public
reference room.

85

---

---

The
SEC maintains an Internet site at http://www.sec.gov that contains reports and
other material that are filed through the SECs Electronic Data Gathering, Analysis
and Retrieval (EDGAR) system. Formula began filing through the EDGAR system
beginning in October 2002.

Formulas
ADSs are quoted on the NASDAQ Global Market. You may inspect reports and other information
concerning Formula at the offices of the National Association of Securities Dealers, Inc.,
9513 Key West Avenue, Rockville, Maryland 20850. You may also find our reports filed with
the ISA on the Magna site whose address is http://www.magna.isa.gov.il.

Our
Internet address is http://www.formulasystems.com. A copy of each report submitted
in accordance with applicable United States law is available for public review at our
principal executive offices.

|I. | Subsidiary
Information
|-- | ----------------------

Not applicable.

# ITEM 11. QUANTITATIVE
AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS

# Currency Exchange Rate
Fluctuations and Impact of Inflation

In
light of the nature of our activities, we invest our cash and cash equivalents primarily
in short-term deposits. As of December 31, 2007, we invested substantially all of the cash
we held in dollar accounts bearing interest based on LIBOR, euro accounts and NIS accounts
bearing interest based on the Israeli prime rate.

An
increase in value of the NIS against the dollar or euro may have a negative impact on our
operating results and financial condition. Depending upon the circumstances, we will
consider entering into currency hedging transactions to decrease the risk of financial
exposure from fluctuations in the exchange rate of the dollar or euro against the NIS.
There can be no assurance that these activities, or others that we may use from time to
time, will eliminate the negative financial impact of currency fluctuations and inflation.

We
do not engage in currency speculation. Generally, we do not hold nor have we issued, to
any material extent, any derivatives or other financial instruments for trading purposes.

86

---

---

# Fluctuations in Market
Price of Securities We Hold

We
hold securities of several publicly traded companies on the NASDAQ Global Market and the
TASE. These companies include Magic, Matrix and Sapiens. We consider these holdings as
long-term holdings. We are exposed to the risk of fluctuation of the price of these
companies securities. All of these publicly traded companies have experienced
significant historical volatility in their stock prices. Fluctuations in the market price
of our holdings in these companies may result in the fluctuation of the value of our
assets. We typically do not attempt to reduce or eliminate our market exposure on these
securities.

# ITEM 12. DESCRIPTION OF
SECURITIES OTHER THAN EQUITY SECURITIES

Not applicable.

# P A R T  II

---

# ITEM 13. DEFAULTS,
DIVIDEND ARREARAGES AND DELINQUENCIES

Not applicable.

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

Not applicable.

# ITEM 15. CONTROLS AND
PROCEDURES

(a) Disclosure
Controls and Procedures.Formulas management, with the participation of our
chief executive officer and chief financial officer, evaluated the effectiveness of
Formulas disclosure controls and procedures (as defined in Rules 13a-15(e) and
15d-15(e) under the Securities Exchange Act) as of December 31, 2007. Based on this
evaluation, our chief executive officer and chief financial officer have concluded that,
as of such date, Formulas disclosure controls and procedures were (i) designed to
ensure that material information relating to Formula, including its consolidated
subsidiaries, is made known to our management, including our chief executive officer and
chief financial officer, by others within those entities, as appropriate to allow timely
decisions regarding required disclosure, particularly during the period in which this
report was being prepared; and (ii) effective, in that they provide reasonable
assurance that information required to be disclosed by Formula in the reports that we file
or submit under the Exchange Act, is recorded, processed, summarized and reported within
the time periods specified iny the SECs rules and forms.

(b) Managements
Annual Report on Internal Control over Financial Reporting.Our board of directors and
audit committee are responsible for establishing and maintaining adequate internal control
over financial reporting. Formulas internal control system was designed to provide
reasonable assurance regarding the reliability of financial reporting and the preparation
and fair presentation of our consolidated financial statements.

87

---

---

Our
chief executive officer and chief financial officer assessed the effectiveness of
Formulas internal control over financial reporting as of December 31, 2007. In
making this assessment, they used the criteria established in Internal Control 
Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission (COSO). Based on this assessment, our chief executive officer and chief
financial officer have concluded that, as of December 31, 2007, Formulas internal
control over financial reporting is effective based on those criteria.

Notwithstanding
the foregoing, all internal control systems no matter how well designed have inherent
limitations. Therefore, even those systems determined to be effective may not prevent or
detect misstatements and can provide only reasonable assurance with respect to financial
statement preparation and presentation. Also, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree of compliance with the
policies or procedures may deteriorate.

(c)
Attestation Report of the Registered Public Accounting Firm. This annual
          report includes an attestation report of our registered public accounting
          assessing our internal control over financial reporting.

(d)
Changes in Internal Control Over Financial Reporting.During the period
          covered by this report, there were no changes in Formulas internal
          controls over financial reporting that have materially affected, or are
          reasonably likely to materially affect, Formulas internal control over
          financial reporting.

# ITEM 16. [RESERVED]

# ITEM 16A. AUDIT
COMMITTEE FINANCIAL EXPERT

Our
board of directors has determined that Shlomo Nass, a member of our audit committee and an
independent member of our board of directors pursuant to the NASDAQ requirements, is an
audit committee financial expert, as defined by applicable SEC regulations.

# ITEM 16B. CODE OF ETHICS

Formula
has adopted a code of business conduct and ethics applicable to its executive officers,
directors and all other employees. A copy of the code is available to all Formulas
employees, investors and others upon request to the following address: Formula Systems
(1985) Ltd., 3 Abba Eban Boulevard, Herzliya 46725, Israel, Attn: Chief Financial Officer.
Any waiver of this code for executive officers or directors will be disclosed through the
filing of a Form 6-K.

88

---

---

# ITEM 16C. PRINCIPAL
ACCOUNTANT FEES AND SERVICES

Policy on Pre-Approval of
Audit and Non-Audit Services of Independent Auditors

Our
audit committee is responsible for the oversight of our independent auditors work.
The audit committees policy is to pre-approve all audit and non-audit services
provided by Ziv Haft independent registered public accounting firm, BDO member firm. These
services may include audit services, audit-related services, tax services and other
services, as further described below. The audit committee sets forth the basis for its
pre-approval in detail, listing the particular services or categories of services which
are pre-approved, and setting forth a specific budget for such services. Additional
services may be pre-approved by the audit committee on an individual basis. Once services
have been pre-approved, Ziv Haft independent registered public accounting firm, BDO member
firm and our management then report to the audit committee on a periodic basis regarding
the extent of services actually provided in accordance with the applicable pre-approval,
and regarding the fees for the services performed.

Principal Accountant Fees
and Services

We
paid the following fees for professional services rendered by Ziv Haft independent
registered public accounting firm, BDO member firm, for the years ended December 31:

|                   | 2007 | 2006
|------------------ | ---- | ----
|
|
|
|
|Audit Fees         |      |     
|Audit-Related Fees |      |     
|Tax Fees           |      |     
|All Other Fees     |      |     
|                   |      |     
|Total              |      |     
|                   |      |     
|                   |      |     

The
Audit Fees for the years ended December 31, 2007 and 2006 were for professional services
rendered for the audits of our annual consolidated financial statements, review of our
consolidated quarterly financial statements, statutory audits of Formula and certain
subsidiaries, issuance of comfort letters, consents and assistance with review of
documents filed with the SEC.

The
audit-related fees for the year ended December 31, 2007 were primarily related to internal
control review.

Tax
Fees for the years ended December 31, 2007 and 2006 were for services related to tax
compliance, including the preparation of tax returns and claims for refund, and tax
advice.

All
other Fees for the year ended December 31, 2006 were primarily for due diligence related
to acquisitions of certain subsidiaries

The
amounts in 2006 include amounts that were paid by our former subsidiaries, Formula Vision
and BluePhoenix.

89

---

---

# ITEM 16D. EXEMPTIONS
FROM THE LISTING STANDARDS FOR AUDIT COMMITTEES

Not applicable.

# ITEM 16E. PURCHASES OF
EQUITY SECURITIES BY THE ISSUER AND AFFILIATED PURCHASERS

Not applicable.

90

---

---

# P A R T III

---

# ITEM 17. FINANCIAL
STATEMENTS

We
have responded to Item 18 in lieu of this item.

# ITEM 18. FINANCIAL
STATEMENTS

Our
consolidated financial statements and the report of independent registered public
accounting firm in connection therewith are filed as part of this annual report, as noted
on the pages below:

|                                                                               |     
|------------------------------------------------------------------------------ | ----
|
|
|
|
|Report of Independent Registered Public Accounting Firm                        | F-1 
|Consolidated Balance Sheets at December 31, 2007 and 2006                      | F-5 
|Consolidated Statements of Operations for the Years Ended December 31,        
|2007, 2006 and 2005                                                            | F-7 
|Consolidated Statements of Changes in Shareholders' Equity for the Years Ended
|December 31,  2007, 2006 and 2005                                              | F-8 
|Consolidated Statements of Cash Flows for the Years Ended December 31,        
|2007, 2006 and 2005                                                            | F-9 
|Notes to Consolidated Financial Statements                                     | F-14
|                                                                               |     

# ITEM 19. EXHIBITS

# Exhibit No.

|1.1 |  | Memorandum
of Association (1)
|--- |  | -----------------------------

|1.2 |  | Articles
of Association as amended on December 28, 2005 (2)
|--- |  | -----------------------------------------------------------

|4.1 |  | Form
of Letter of Indemnification, dated December 28, 2005 (2)
|--- |  | --------------------------------------------------------------

|4.2 |  | International
Securities Purchase Agreement dated June 15, 2007 between the Registrant and each of the
purchasers identified on the signature pages of the agreement (3)
|--- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------

91

---

---

Exhibit No.

|8 |  | List
of Subsidiaries
|- |  | --------------------

|12.1 |  | Certification
of the Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act  of 2002
|---- |  | -------------------------------------------------------------------------------------------------------

|12.2 |  | Certification
of the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act  of 2002
|---- |  | -------------------------------------------------------------------------------------------------------

|13.1 |  | Certification
of the Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley  Act of 2002
|---- |  | -------------------------------------------------------------------------------------------------------

|13.2 |  | Certification
of the Chief Financial Officer pursuant to Section. 906 of the Sarbanes-Oxley  Act of 2002
|---- |  | --------------------------------------------------------------------------------------------------------

---

(1)
          Incorporated by reference to the Registration Statement on Form F-1 (File No.
          333-8858).(2)
          Incorporated by reference to the Annual Report on Form 20-F filed with the
          Securities and Exchange Commission on June 29, 2006.(3)
          Incorporated by reference to the Annual Report on Form 20-F filed with the
          Securities and Exchange Commission on June 29, 2007.

92

---

---

FORMULA
SYSTEMS (1985) LTD.

(An
Israeli corporation)

2007
Annual Report

---

---

FORMULA
SYSTEMS (1985) LTD.

(An Israeli Corporation)

2007 CONSOLIDATED FINANCIAL STATEMENTS

TABLE OF CONTENTS

|                                                          |  |                
|--------------------------------------------------------- |  | ---------------
|                                                          |  | Page           
|                                                          |  |                
|REPORT OF
 INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM: |  | F  1  F  4  
|                                                          |  |                
|CONSOLIDATED FINANCIAL
 STATEMENTS:                       |  |                
|                                                          |  |                
|Balance Sheets                                            |  | F  5  F  6  
|                                                          |  |                
|Statements of
Operations                                  |  | F  7          
|                                                          |  |                
|Statements of Changes in
Shareholders Equity             |  | F  8          
|                                                          |  |                
|Statements of Cash
Flows                                  |  | F  9  F  13 
|                                                          |  |                
|Notes to Financial
Statements                             |  | F  14  F  65

The amounts are stated in U.S. dollars ($).

---

---

|           |  |                                              |  |                                                                                                                                                                                        
|---------- |  | -------------------------------------------- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(BDO LOGO) |  | ZIV HAFT
Certified Public Accountants (Isr.) |  | Head
  Office: Amot Bituach House Building B
  46-48
  Menachem Begin Road, Tel-Aviv 66184
  Tel: +972 3 638 6868, Fax: +972 3 639 4320
  E-mail:
  zivhaft@bdo.co.il     www.bdo.co.il

Report of Independent Registered Public Accounting
Firm

To the Shareholders and Board of Directors of

FORMULA SYSTEMS (1985) LTD.

We have
audited the accompanying consolidated balance sheets of Formula Systems (1985)
Ltd. and its subsidiaries (the Company) as of December 31, 2007 and 2006 and the
related consolidated statements of operations, changes in shareholders equity and cash
flows for each of the three years in the period ended December 31, 2007. These
financial statements are the responsibility of the Companys management. Our responsibility is to
express an opinion on these financial statements based on our audits.

We did
not audit the financial statements of certain subsidiaries, whose consolidated
assets constitute approximately
22% and 19% of total consolidated assets as of December 31, 2007 and 2006,
respectively, and whose consolidated
revenues constitute approximately 20%, 23% and 24% of total consolidated
revenues for the years ended December 31, 2007, 2006 and 2005, respectively.
The financial statements of those subsidiaries were audited by other
auditors, whose reports have been furnished to us, and our opinion, insofar as
it relates to the amounts included in
respect of those subsidiaries is based solely on the reports of the other
auditors.

We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we
plan and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit also includes examining,
on a test basis, evidence supporting the amounts and disclosures in the
financial statements, assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation. We believe
that our audits provide a reasonable basis for our opinion.

In our
opinion, based on our audits and the reports of other auditors, the
consolidated financial statements referred to above present fairly,
in all material respects, the consolidated financial position of the Company
and its subsidiaries
as of December 31, 2007 and 2006, and the related consolidated results of their
operations and cash flows for each of the three years in the period ended December 31, 2007,
in conformity with accounting principles generally accepted in the United
States of America.

We also
have audited, in accordance with the standards of the Public Company Accounting
Oversight Board (United States), the Companys internal control over
financial reporting as of December 31, 2007, based on criteria established in
Internal Control-Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission (COSO) and our report dated June
30, 2008 expressed an unqualified opinion thereon.

|                                                                                 |  |                                                                                          |  |            
|-------------------------------------------------------------------------------- |  | ---------------------------------------------------------------------------------------- |  | -----------
|Haifa Tel: 04-8680600, Fax: 04-8620866Jerusalem Tel: 02-6546200, Fax: 02-6526633 |  | Kiryat Shmona Tel: 04-6951389, Fax:04-6951360Beer Sheva Tel: 08-6654432, Fax: 08-6270008 |  | (BVQI LOGO)

F  1

---

---

As
discussed in Note 1R to the consolidated financial statements, in 2007 the
Company adopted FASB interpretation No. 48 Accounting for Uncertainty in
Income Taxes - An Interpretation of FASB No. 109, effective January 1,
2007.

Tel Aviv, Israel
June 30, 2008

| |  |                                    
| |  | -----------------------------------
| |  | -s- Ziv Haft                       
| |  |                                    
| |  | Ziv Haft                           
| |  | Certified Public Accountants (Isr.)
| |  | BDO Member Firm                    

F  2

---

---

|           |  |                                                |  |                                                                                                                                                                                     
|---------- |  | ---------------------------------------------- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(BDO LOGO) |  | ZIV HAFT
  Certified Public Accountants (Isr.) |  | Head Office: Amot Bituach
  House Building B
  46-48 Menachem Begin Road, Tel-Aviv
  66184
  Tel: +972 3 638 6868, Fax: +972 3
  639 4320 
  E-mail: zivhaft@bdo.co.il www.bdo.co.il

Report of Independent Registered Public Accounting
Firm

To the Shareholders and Board of Directors of

FORMULA SYSTEMS (1985) LTD.

We
have audited Formula Systems (1985) Ltd. (the Company) internal control over
financial reporting as of December 31, 2007, based on criteria established in
Internal Control-Integrated Framework issued by the Committee of
Sponsoring Organizations of the Treadway Commission (the COSO criteria). The
Companys management
is responsible for maintaining effective internal control over financial
reporting and for its assessment of the effectiveness of internal control over financial
reporting, included in the accompanying Item 15b Management Report Over Financial Reporting. Our
responsibility is to express an opinion on the Companys internal control over
financial reporting based on our audit.

We
conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). These standards require that we
plan and perform the audit to obtain reasonable assurance about whether effective
internal control over financial reporting was maintained in all material
respects. Our audit included obtaining an understanding of internal control over financial
reporting, assessing the risk that a material weakness exists, and testing and evaluating the
design and operating effectiveness of internal control based on the assessed risk. Our audit also included
performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides
a reasonable basis for our opinion.

A
companys internal control over financial reporting is a process designed to
provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles. A companys internal control
over financial reporting includes those policies and procedures that (1)
pertain to the maintenance of records that, in reasonable detail, accurately
and fairly reflect the transactions and dispositions of the assets of the
company; (2) provide reasonable assurance that transactions are recorded as
necessary to permit preparation of financial statements in accordance with
generally accepted accounting principles, and that receipts and expenditures of
the company are being made only in accordance with authorizations of management and
directors of the company; and (3) provide reasonable assurance regarding
prevention or timely detection of unauthorized acquisition, use, or disposition
of the companys
assets that could have a material effect on the financial statements.

|                                                                                 |  |                                                                                            |  |            
|-------------------------------------------------------------------------------- |  | ------------------------------------------------------------------------------------------ |  | -----------
|Haifa Tel: 04-8680600, Fax: 04-8620866Jerusalem Tel: 02-6546200, Fax: 02-6526633 |  | Kiryat Shmona Tel: 04-6951389, Fax: 04-6951360 Beer Sheva Tel: 08-6654432, Fax: 08-6270008 |  | (BVQI LOGO)

F  3

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

Because
of its inherent limitations, internal control over financial reporting may not
prevent or detect misstatements. Also, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may become inadequate because
of changes in conditions, or that the degree of compliance with the policies or
procedures may deteriorate.

In our
opinion, the Company maintained in all material respects, effective internal
control over financial reporting as of December 31, 2007, based on the COSO
criteria.

We also have audited, in
accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets
of the Company and subsidiaries as of December 31, 2006 and 2007, and the
related consolidated statements of operations, changes in shareholders equity
and cash flows for each of the three
years in the period ended December 31, 2007 and our report dated June 30, 2008 expressed
an unqualified opinion thereon.

Tel Aviv, Israel June, 30 2008

| |  |                                      
| |  | -------------------------------------
| |  |                                      
| |  | -s- Ziv Haft                         
| |  |                                      
| |  | Ziv Haft                             
| |  | Certified Public
  Accountants (Isr.)
| |  | BDO Member Firm                      

F  4

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

CONSOLIDATED BALANCE SHEETS

|                                                                                                                                 |  |                       |         |      |  |         | 
|-------------------------------------------------------------------------------------------------------------------------------- |  | --------------------- | ------- | ---- |  | ------- | 
|                                                                                                                                 |  | December 31,          |        
|                                                                                                                                 |  |                       |        
|                                                                                                                                 |  | 2007                  |         | 2006 | 
|                                                                                                                                 |  |                       |         |      | 
|                                                                                                                                 |  | (U.S. $ in thousands) |        
|                                                                                                                                 |  |                       |        
|ASSETS                                                                                                                           |  |                       |         |      |  |         | 
|                                                                                                                                 |  |                       |         |      |  |         | 
|CURRENT ASSETS:                                                                                                                  |  |                       |         |      |  |         | 
|                                                                                                                                 |  |                       |         |      |  |         | 
|Cash and cash equivalents                                                                                                        |  |                       | 161,504 |      |  | 103,548 | 
|                                                                                                                                 |  |                       |         |      |  |         | 
|Short-term investments (Note 3)                                                                                                  |  |                       | 40,276  |      |  | 15,031  | 
|                                                                                                                                 |  |                       |         |      |  |         | 
|Trade receivables (net of allowances for
  doubtful debts of $4,678 and $4,135 as of December 31, 2007 and 2006,
  respectively) |  |                       | 139,478 |      |  | 119,504 | 
|                                                                                                                                 |  |                       |         |      |  |         | 
|Other current assets (Note 15A)                                                                                                  |  |                       | 34,822  |      |  | 17,582  | 
|                                                                                                                                 |  |                       |         |      |  |         | 
|Inventories                                                                                                                      |  |                       | 3,157   |      |  | 2,753   | 
|                                                                                                                                 |  |                       |         |      |  |         | 
|                                                                                                                                 |  |                       | 379,237 |      |  | 258,418 | 
|                                                                                                                                 |  |                       |         |      |  |         | 
|                                                                                                                                 |  |                       |         |      |  |         | 
|LONG-TERM INVESTMENTS, LOANS AND
  RECEIVABLES:                                                                                  |  |                       |         |      |  |         | 
|                                                                                                                                 |  |                       |         |      |  |         | 
|Loans and other investments (Note 4)                                                                                             |  |                       | 14,849  |      |  | 3,861   | 
|                                                                                                                                 |  |                       |         |      |  |         | 
|Investments in affiliates (Note 5)                                                                                               |  |                       | 3,792   |      |  | 720     | 
|                                                                                                                                 |  |                       |         |      |  |         | 
|                                                                                                                                 |  |                       | 18,641  |      |  | 4,581   | 
|                                                                                                                                 |  |                       |         |      |  |         | 
|                                                                                                                                 |  |                       |         |      |  |         | 
|SEVERANCE PAY FUND                                                                                                               |  |                       | 36,851  |      |  | 29,961  | 
|                                                                                                                                 |  |                       |         |      |  |         | 
|                                                                                                                                 |  |                       |         |      |  |         | 
|PROPERTY AND EQUIPMENT, NET (Note 6)                                                                                             |  |                       | 15,794  |      |  | 15,921  | 
|                                                                                                                                 |  |                       |         |      |  |         | 
|                                                                                                                                 |  |                       |         |      |  |         | 
|GOODWILL (Note 1J and Note 7)                                                                                                    |  |                       | 119,014 |      |  | 104,273 | 
|                                                                                                                                 |  |                       |         |      |  |         | 
|                                                                                                                                 |  |                       |         |      |  |         | 
|OTHER ASSETS, NET (Note 8)                                                                                                       |  |                       | 43,046  |      |  | 37,950  | 
|                                                                                                                                 |  |                       |         |      |  |         | 
|                                                                                                                                 |  |                       |         |      |  |         | 
|TOTAL ASSETS ATTRIBUTED TO DISCONTINUED
  OPERATIONS (Note 16)                                                                   |  |                       | 41      |      |  | 146,383 | 
|                                                                                                                                 |  |                       |         |      |  |         | 
|                                                                                                                                 |  |                       |         |      |  |         | 
|                                                                                                                                 |  |                       |         |      |  |         | 
|                                                                                                                                 |  |                       | 612,624 |      |  | 597,487 | 
|                                                                                                                                 |  |                       |         |      |  |         | 

F  5

---

---

FORMULA SYSTEMS (1985) LTD.

(An
Israeli Corporation)

|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | --------------------- | ------- | ---- |  | ------- | -
|                                                                                                                                                                                          |  | December 31,          |        
|                                                                                                                                                                                          |  |                       |        
|                                                                                                                                                                                          |  | 2007                  |         | 2006 | 
|                                                                                                                                                                                          |  |                       |         |      | 
|                                                                                                                                                                                          |  | (U.S. $ in thousands) |        
|                                                                                                                                                                                          |  |                       |        
|LIABILITIES AND SHAREHOLDERS EQUITY                                                                                                                                                      |  |                       |         |      |  |         |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|CURRENT LIABILITIES:                                                                                                                                                                      |  |                       |         |      |  |         |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|Liabilities to banks and others (Notes 9B
  and 15B)                                                                                                                                      |  |                       | 26,954  |      |  | 40,414  |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|Trade payables                                                                                                                                                                            |  |                       | 57,099  |      |  | 49,719  |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|Other accounts payable (Note 15C)                                                                                                                                                         |  |                       | 73,072  |      |  | 56,967  |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|Debentures (Note 10)                                                                                                                                                                      |  |                       | 3,524   |      |  | 4,450   |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|                                                                                                                                                                                          |  |                       | 160,649 |      |  | 151,550 |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|LONG-TERM LIABILITIES:                                                                                                                                                                    |  |                       |         |      |  |         |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|Debentures (Note 10)                                                                                                                                                                      |  |                       | 71,880  |      |  | 11,796  |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|Deferred taxes                                                                                                                                                                            |  |                       | 3,276   |      |  | 457     |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|Customer advances                                                                                                                                                                         |  |                       | 2,181   |      |  | 449     |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|Liabilities to banks and others (Note 9)                                                                                                                                                  |  |                       | 23,685  |      |  | 59,268  |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|Liability in respect of the acquisition of
  activities                                                                                                                                   |  |                       | 1,373   |      |  | 1,489   |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|Accrued severance pay                                                                                                                                                                     |  |                       | 42,774  |      |  | 35,340  |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|                                                                                                                                                                                          |  |                       | 145,169 |      |  | 108,799 |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|TOTAL LIABILITIESATTRIBUTED TO
DISCONTINUED
  OPERATIONS (Note 16)                                                                                                                        |  |                       | 503     |      |  | 98,782  |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|MINORITY INTEREST                                                                                                                                                                         |  |                       | 107,915 |      |  | 85,066  |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|COMMITMENTS AND CONTINGENCIES (Note 12)                                                                                                                                                   |  |                       |         |      |  |         |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|SHAREHOLDERS EQUITY (Note 13):                                                                                                                                                           |  |                       |         |      |  |         |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|Share capital - ordinary shares of NIS 1
  par value (authorized - December 31, 2007 and 2006 - 25,000,000 shares;
  issued: December 31, 2007 - 13,224,780 and 2006 - 13,224,780 shares) |  |                       | 3,736   |      |  | 3,736   |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|Additional paid-in capital                                                                                                                                                                |  |                       | 132,545 |      |  | 132,545 |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|Retained earnings                                                                                                                                                                         |  |                       | 69,229  |      |  | 32,165  |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|Other accumulated comprehensive loss                                                                                                                                                      |  |                       | (6,863  | )    |  | (14,897 | )
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|                                                                                                                                                                                          |  |                       | 198,647 |      |  | 153,549 |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|Cost of 24,780 treasury shares                                                                                                                                                            |  |                       | (259    | )    |  | (259    | )
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|TOTAL SHAREHOLDERS EQUITY                                                                                                                                                                |  |                       | 198,388 |      |  | 153,290 |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  
|                                                                                                                                                                                          |  |                       | 612,624 |      |  | 597,487 |  
|                                                                                                                                                                                          |  |                       |         |      |  |         |  

The accompanying notes form an integral part
of the financial statements.

F  6

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

CONSOLIDATED
STATEMENTS OF OPERATIONS

|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|------------------------------------------------------------------------ |  | ------------------------------------------------- | ------- | ---- |  | ------- | - |  | ------- | -
|                                                                         |  | Year Ended December 31,                           |        
|                                                                         |  |                                                   |        
|                                                                         |  | 2007                                              |         | 2006 |  | 2005    |  
|                                                                         |  |                                                   |         |      |  |         |  
|                                                                         |  | (U.S. $ in thousands,
  except per share amounts) |        
|                                                                         |  |                                                   |        
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Revenues (Note 15I(2))                                                   |  |                                                   |         |      |  |         |   |  |         |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Proprietary software products                                            |  |                                                   | 100,823 |      |  | 96,868  |   |  | 90,940  |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Software services                                                        |  |                                                   | 392,527 |      |  | 319,939 |   |  | 274,901 |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Total revenues                                                           |  |                                                   | 493,350 |      |  | 416,807 |   |  | 365,841 |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Cost of revenues                                                         |  |                                                   |         |      |  |         |   |  |         |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Proprietary software products                                            |  |                                                   | 52,923  |      |  | 53,820  |   |  | 47,674  |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Software services                                                        |  |                                                   | 316,187 |      |  | 255,627 |   |  | 218,560 |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Total cost of revenues                                                   |  |                                                   | 369,110 |      |  | 309,447 |   |  | 266,234 |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Gross profit                                                             |  |                                                   | 124,240 |      |  | 107,360 |   |  | 99,607  |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Research and development costs, net                                      |  |                                                   | 6,547   |      |  | 5,508   |   |  | 6,094   |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Selling, general and administrative expenses                             |  |                                                   | 90,458  |      |  | 88,844  |   |  | 86,682  |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Restructuring and non-recurring costs (Note 15D)                         |  |                                                   | -       |      |  | 2,911   |   |  | 1,455   |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Operating income                                                         |  |                                                   | 27,235  |      |  | 10,097  |   |  | 5,376   |  
|Financial expenses, net (Note 15E)                                       |  |                                                   | (3,810  | )    |  | (4,660  | ) |  | (2,059  | )
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Gain on realization of shareholdings, net (Note 15G)                     |  |                                                   | 2,039   |      |  | 3,724   |   |  | 3,192   |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Other expenses (Note 15F)                                                |  |                                                   | (750    | )    |  | (1,102  | ) |  | (341    | )
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Income before taxes on income                                            |  |                                                   | 24,714  |      |  | 8,059   |   |  | 6,168   |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Taxes on income (Note 14)                                                |  |                                                   | (1,933  | )    |  | (3,766  | ) |  | (4,647  | )
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|                                                                         |  |                                                   | 22,781  |      |  | 4,293   |   |  | 1,521   |  
|Equity in gains (losses) of affiliated companies, net                    |  |                                                   | (653    | )    |  | 47      |   |  | 62      |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Minority interest in earnings of subsidiaries, net                       |  |                                                   | (9,667  | )    |  | (4,832  | ) |  | 189     |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Income (loss) from continuing operation                                  |  |                                                   | 12,461  |      |  | (492    | ) |  | 1,772   |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Income (loss) from discontinued operation, net
(Note 16)                 |  |                                                   | 24,798  |      |  | 10,507  |   |  | (1,589  | )
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Net income                                                               |  |                                                   | 37,259  |      |  | 10,015  |   |  | 183     |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Earnings (losses) per share generated from continuing
  operation:       |  |                                                   |         |      |  |         |   |  |         |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Basic                                                                    |  |                                                   | 0.95    |      |  | (0.04   | ) |  | 0.14    |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Diluted                                                                  |  |                                                   | 0.93    |      |  | (0.04   | ) |  | 0.14    |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Earnings (losses) per share generated from
  discontinued operation:     |  |                                                   |         |      |  |         |   |  |         |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Basic                                                                    |  |                                                   | 1.87    |      |  | 0.84    |   |  | (0.13   | )
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Diluted                                                                  |  |                                                   | 1.86    |      |  | 0.77    |   |  | (0.13   | )
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Total earnings per share:                                                |  |                                                   |         |      |  |         |   |  |         |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Basic                                                                    |  |                                                   | 2.82    |      |  | 0.8     |   |  | 0.01    |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Diluted                                                                  |  |                                                   | 2.79    |      |  | 0.73    |   |  | 0.01    |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Weighted average number of shares outstanding in
  thousands (Note 15J): |  |                                                   |         |      |  |         |   |  |         |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Basic                                                                    |  |                                                   | 13,200  |      |  | 13,200  |   |  | 12,800  |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  
|Diluted                                                                  |  |                                                   | 13,200  |      |  | 13,298  |   |  | 12,800  |  
|                                                                         |  |                                                   |         |      |  |         |   |  |         |  

The accompanying notes form an integral part of the financial
statements.

F  7

---

---

CONSOLIDATED STATEMENTS OF
CHANGES IN SHAREHOLDERS EQUITY

|                                                                                           |  |                                   |            |                                |  |                     |  |                                          |         |                             |  |         |   |  |         |   |  |      |   |  |         |  
|------------------------------------------------------------------------------------------ |  | --------------------------------- | ---------- | ------------------------------ |  | ------------------- |  | ---------------------------------------- | ------- | --------------------------- |  | ------- | - |  | ------- | - |  | ---- | - |  | ------- | -
|                                                                                           |  | Share
  Capital                   |            |                                |  |                     |  |                                          |         |                             |  |         |   |  |         |   |  |     
|                                                                                           |  |                                   |            | Additional
  paid-in
  Capital |  | Retained
  Earnings |  | Accumulated
  other
  comprehensive loss |         | Cost of
  Treasury
  Shares |  | Total   |  
|                                                                                           |  | Number
  of
  Shares              |            | Amount                         |  |                     |  |                                          |         |                            
|                                                                                           |  |                                   |            |                                |  |                     |  |                                         
|                                                                                           |  |                                   |            |                                |  |                     |  |                                          |         |                             |  |         |   |  |        
|                                                                                           |  | (U.S.  $  in  t h o u s a n d s ) |           
|                                                                                           |  |                                   |           
|                                                                                           |  |                                   |            |                                |  |                     |  |                                          |         |                             |  |         |   |  |         |   |  |      |   |  |         |  
|Balance as of January 1, 2005                                                              |  |                                   | 10,800,000 |                                |  | 3,215               |  |                                          | 99,535  |                             |  | 99,166  |   |  | (14,879 | ) |  | (259 | ) |  | 186,778 |  
|Changes during 2005:                                                                       |  |                                   |            |                                |  |                     |  |                                          |         |                             |  |         |   |  |         |   |  |      |   |  |         |  
|Net Income                                                                                 |  |                                   | -          |                                |  | -                   |  |                                          | -       |                             |  | 183     |   |  | -       |   |  | -    |   |  | 183     |  
|Unrealized gains from available-for-sale
securities, net                                   |  |                                   | -          |                                |  | -                   |  |                                          | -       |                             |  | -       |   |  | (56     | ) |  | -    |   |  | (56     | )
|Currency translation adjustments                                                           |  |                                   | -          |                                |  | -                   |  |                                          | -       |                             |  | -       |   |  | (6,770  | ) |  | -    |   |  | (6,770  | )
|                                                                                           |  |                                   |            |                                |  |                     |  |                                          |         |                             |  |         |   |  |         |   |  |      |   |  |         |  
|Total comprehensive income                                                                 |  |                                   | -          |                                |  | -                   |  |                                          | -       |                             |  | -       |   |  | -       |   |  | -    |   |  | (6,643  | )
|Issuance of shares, net*                                                                   |  |                                   | 2,400,000  |                                |  | 521                 |  |                                          | 32,786  |                             |  | -       |   |  |         |   |  |      |   |  | 33,307  |  
|Dividend distribution                                                                      |  |                                   | -          |                                |  | -                   |  |                                          | -       |                             |  | (50,185 | ) |  |         |   |  |      |   |  | (50,185 | )
|Beneficial conversion features                                                             |  |                                   |            |                                |  |                     |  |                                          | 181     |                             |  |         |   |  | -       |   |  | -    |   |  | 181     |  
|Capital fund arising from elimination of gain on
realization of
  development stage entity |  |                                   | -          |                                |  | -                   |  |                                          | 7       |                             |  | -       |   |  | -       |   |  | -    |   |  | 7       |  
|                                                                                           |  |                                   |            |                                |  |                     |  |                                          |         |                             |  |         |   |  |         |   |  |      |   |  |         |  
|Balance as of December 31, 2005                                                            |  |                                   | 13,200,000 |                                |  | 3,736               |  |                                          | 132,509 |                             |  | 49,164  |   |  | (21,705 | ) |  | (259 | ) |  | 163,445 |  
|Changes during 2006:                                                                       |  |                                   |            |                                |  |                     |  |                                          |         |                             |  |         |   |  |         |   |  |      |   |  |         |  
|Net Income                                                                                 |  |                                   |            |                                |  |                     |  |                                          |         |                             |  | 10,015  |   |  | -       |   |  | -    |   |  | 10,015  |  
|Unrealized loss from available-for-sale securities,
net                                    |  |                                   |            |                                |  |                     |  |                                          |         |                             |  |         |   |  | 376     |   |  | -    |   |  | 376     |  
|Currency translation adjustments                                                           |  |                                   | -          |                                |  | -                   |  |                                          | -       |                             |  |         |   |  | 6,433   |   |  | -    |   |  | 6,433   |  
|                                                                                           |  |                                   |            |                                |  |                     |  |                                          |         |                             |  |         |   |  |         |   |  |      |   |  |         |  
|Total comprehensive income                                                                 |  |                                   | -          |                                |  | -                   |  |                                          | -       |                             |  | -       |   |  |         |   |  |      |   |  | 16,824  |  
|Employee stock options exercised                                                           |  |                                   | -          |                                |  | -                   |  |                                          | 36      |                             |  | -       |   |  | -       |   |  | -    |   |  | 36      |  
|Spin off                                                                                   |  |                                   | -          |                                |  | -                   |  |                                          | -       |                             |  | (27,015 | ) |  | -       |   |  | -    |   |  | (27,015 | )
|                                                                                           |  |                                   |            |                                |  |                     |  |                                          |         |                             |  |         |   |  |         |   |  |      |   |  |         |  
|Balance as of December 31, 2006                                                            |  |                                   | 13,200,000 |                                |  | 3,736               |  |                                          | 132,545 |                             |  | 32,164  |   |  | (14,896 | ) |  | (259 | ) |  | 153,290 |  
|Changes during 2007:                                                                       |  |                                   |            |                                |  |                     |  |                                          |         |                             |  |         |   |  |         |   |  |      |   |  |         |  
|Net Income                                                                                 |  |                                   | -          |                                |  | -                   |  |                                          | -       |                             |  | 37,259  |   |  | -       |   |  | -    |   |  | 37,259  |  
|Unrealized gain from available - for-sale securities, net                                  |  |                                   | -          |                                |  | -                   |  |                                          | -       |                             |  | -       |   |  | (221    | ) |  | -    |   |  | (221    | )
|Currency translation adjustments                                                           |  |                                   | -          |                                |  | -                   |  |                                          | -       |                             |  | -       |   |  | 8,254   |   |  | -    |   |  | 8,254   |  
|                                                                                           |  |                                   |            |                                |  |                     |  |                                          |         |                             |  |         |   |  |         |   |  |      |   |  |         |  
|Total comprehensive income                                                                 |  |                                   | -          |                                |  | -                   |  |                                          | -       |                             |  | -       |   |  | -       |   |  | -    |   |  | 45,292  |  
|Implementation of FSP EITF 00-19-2                                                         |  |                                   | -          |                                |  | -                   |  |                                          | -       |                             |  | 236     |   |  | -       |   |  | -    |   |  | 236     |  
|Cumulative impact of change in accounting for uncertainties in income
  taxes (FIN 48)     |  |                                   | -          |                                |  | -                   |  |                                          | -       |                             |  | (430    | ) |  | -       |   |  | -    |   |  | (430    | )
|                                                                                           |  |                                   |            |                                |  |                     |  |                                          |         |                             |  |         |   |  |         |   |  |      |   |  |         |  
|Balance as of December 31, 2007                                                            |  |                                   | 13,200,000 |                                |  | 3,736               |  |                                          | 132,545 |                             |  | 69,229  |   |  | (6,863  | ) |  | (259 | ) |  | 198,388 |  
|                                                                                           |  |                                   |            |                                |  |                     |  |                                          |         |                             |  |         |   |  |         |   |  |      |   |  |         |  
|Accumulated unrealized gain from available - for-sale
securities                           |  |                                   |            |                                |  |                     |  |                                          |         |                             |  |         |   |  | 28      |   |  |      |   |  |         |  
|Accumulated currency translation adjustments                                               |  |                                   |            |                                |  |                     |  |                                          |         |                             |  |         |   |  | (6,891  | ) |  |      |   |  |         |  
|                                                                                           |  |                                   |            |                                |  |                     |  |                                          |         |                             |  |         |   |  |         |   |  |      |   |  |         |  
|Accumulated other comprehensive loss                                                       |  |                                   |            |                                |  |                     |  |                                          |         |                             |  |         |   |  | (6,863  | ) |  |      |   |  |         |  
|                                                                                           |  |                                   |            |                                |  |                     |  |                                          |         |                             |  |         |   |  |         |   |  |      |   |  |         |  

* Net of issuance expenses on
the amount of $3,000 thousand.

The accompanying notes form an integral part of the financial
statements.

F  8

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

CONSOLIDATED
STATEMENTS OF CASH FLOWS

|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|---------------------------------------------------------------------------------------- |  | ----------------------- | ------- | ---- |  | ------- | - |  | ------- | -
|                                                                                         |  | Year ended December 31, |        
|                                                                                         |  |                         |        
|                                                                                         |  | 2007                    |         | 2006 |  | 2005    |  
|                                                                                         |  |                         |         |      |  |         |  
|                                                                                         |  | (U.S. $ in thousands)   |        
|                                                                                         |  |                         |        
|CASH FLOWS FROM OPERATING ACTIVITIES:                                                    |  |                         |         |      |  |         |   |  |         |  
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Net income                                                                               |  |                         | 37,259  |      |  | 10,015  |   |  | 183     |  
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Adjustments to reconcile net income to net cash
provided by operating
 activities:       |  |                         |         |      |  |         |   |  |         |  
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Impairment and write down of other investments and
fixed assets                          |  |                         | 649     |      |  | 956     |   |  | 138     |  
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Impairment of available for sale marketable
securities                                   |  |                         | 1,789   |      |  | -       |   |  | -       |  
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Minority interest in earnings of consolidated
subsidiaries                               |  |                         | 15,464  |      |  | 13,523  |   |  | 1,491   |  
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Equity in losses (gains) of affiliated companies,
net                                    |  |                         | 653     |      |  | (459    | ) |  | 3,109   |  
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Depreciation and amortization                                                            |  |                         | 15,806  |      |  | 44,887  |   |  | 25,130  |  
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Increase in accrued severance pay, net                                                   |  |                         | 542     |      |  | 1,839   |   |  | 108     |  
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Gain from sale of subsidiaries                                                           |  |                         | (28,037 | )    |  | (2,485  | ) |  | -       |  
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Loss (gain) from sale of operation                                                       |  |                         | (170    | )    |  | 917     |   |  | -       |  
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Loss (gain) from sale of property and
equipment                                          |  |                         | (70     | )    |  | 15      |   |  | (20     | )
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Gain on realization of shareholdings                                                     |  |                         | (2,039  | )    |  | (38,500 | ) |  | (4,107  | )
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Amortization of deferred option
compensation                                             |  |                         | 1,074   |      |  | 59      |   |  | 134     |  
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Increase in value and accrued interest on debentures
and changes in
 embedded derivative |  |                         | 1,691   |      |  | 255     |   |  | 1,699   |  
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Changes in value of long term loans and deposits,
net                                    |  |                         | 1,963   |      |  | 2,249   |   |  | 247     |  
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Deferred taxes                                                                           |  |                         | (2,563  | )    |  | (2,353  | ) |  | (391    | )
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Change in liability in respect of
acquisition                                            |  |                         | (493    | )    |  | -       |   |  | -       |  
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Loss (gain) from sale and decrease (increase) in
value of marketable
 securities, net    |  |                         | 60      |      |  | (1,219  | ) |  | 1,598   |  
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Changes in operating assets and
liabilities:                                             |  |                         |         |      |  |         |   |  |         |  
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Decrease (increase) in inventories                                                       |  |                         | (134    | )    |  | 1,008   |   |  | 237     |  
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Increase in trade receivables                                                            |  |                         | (8,415  | )    |  | (26,045 | ) |  | (20,717 | )
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Decrease (increase) in other accounts
receivable                                         |  |                         | (7,296  | )    |  | 2,499   |   |  | (472    | )
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Increase in trade payables                                                               |  |                         | 4,082   |      |  | 9,573   |   |  | 5,038   |  
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Increase (decrease) in other accounts payable and
restructuring
 accrual                 |  |                         | 10,336  |      |  | 12,045  |   |  | (7,265  | )
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Increase (decrease) in customer advances, net of
work in progress                        |  |                         | 1,114   |      |  | (2,829  | ) |  | 146     |  
|                                                                                         |  |                         |         |      |  |         |   |  |         |  
|Net cash provided by operating
activities                                                |  |                         | 43,265  |      |  | 25,950  |   |  | 6,286   |  
|                                                                                         |  |                         |         |      |  |         |   |  |         |  

The accompanying notes form an integral part of the financial
statements.

F  9

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

CONSOLIDATED STATEMENTS OF CASH FLOWS

|                                                                                              |  |                         |         |      |  |         |   |  |         |  
|--------------------------------------------------------------------------------------------- |  | ----------------------- | ------- | ---- |  | ------- | - |  | ------- | -
|                                                                                              |  | Year ended December 31, |        
|                                                                                              |  |                         |        
|                                                                                              |  | 2007                    |         | 2006 |  | 2005    |  
|                                                                                              |  |                         |         |      |  |         |  
|                                                                                              |  | (U.S. $ in thousands)   |        
|                                                                                              |  |                         |        
|CASH
 FLOWS FROM INVESTING ACTIVITIES:                                                        |  |                         |         |      |  |         |   |  |         |  
|                                                                                              |  |                         |         |      |  |         |   |  |         |  
|Acquisition of newly-consolidated subsidiaries
(Appendix C)                                   |  |                         | (5,391  | )    |  | (15,928 | ) |  | (5,342  | )
|                                                                                              |  |                         |         |      |  |         |   |  |         |  
|Proceeds
 from realization of investment in previously-consolidated subsidiaries (Appendix
D) |  |                         | 39,499  |      |  | (1,581  | ) |  | -       |  
|                                                                                              |  |                         |         |      |  |         |   |  |         |  
|Proceeds from sale of activity in a consolidated
company                                      |  |                         | 170     |      |  | 2,895   |   |  | -       |  
|                                                                                              |  |                         |         |      |  |         |   |  |         |  
|Proceeds from repayment of debentures                                                         |  |                         | -       |      |  | -       |   |  | (41     | )
|                                                                                              |  |                         |         |      |  |         |   |  |         |  
|Restricted short term deposit, net                                                            |  |                         | -       |      |  | 5,290   |   |  | (3,918  | )
|                                                                                              |  |                         |         |      |  |         |   |  |         |  
|Restricted long term deposit, net                                                             |  |                         | 2,506   |      |  | (2,533  | ) |  | 1,434   |  
|                                                                                              |  |                         |         |      |  |         |   |  |         |  
|Purchase of property and equipment                                                            |  |                         | (4,345  | )    |  | (6,460  | ) |  | (6,006  | )
|                                                                                              |  |                         |         |      |  |         |   |  |         |  
|Purchase (proceeds) of short term investment ,
net                                            |  |                         | (26,297 | )    |  | 3,917   |   |  | 6,100   |  
|                                                                                              |  |                         |         |      |  |         |   |  |         |  
|Proceeds from sale of property and
equipment                                                  |  |                         | 186     |      |  | 838     |   |  | 1,963   |  
|                                                                                              |  |                         |         |      |  |         |   |  |         |  
|Investment in and loans to affiliated and other
companies                                     |  |                         | (499    | )    |  | (8,900  | ) |  | (1,582  | )
|                                                                                              |  |                         |         |      |  |         |   |  |         |  
|Proceeds from sale of investments in and loans to
affiliated
 companies                       |  |                         | -       |      |  | 46,558  |   |  | 813     |  
|                                                                                              |  |                         |         |      |  |         |   |  |         |  
|Purchase of an activity by a consolidated
company                                             |  |                         | -       |      |  | -       |   |  | (111    | )
|                                                                                              |  |                         |         |      |  |         |   |  |         |  
|Purchase of intangible assets by consolidated
companies                                       |  |                         | -       |      |  | (50     | ) |  | -       |  
|                                                                                              |  |                         |         |      |  |         |   |  |         |  
|Investment in long term bank deposits, net                                                    |  |                         | (9,881  | )    |  | 489     |   |  | (698    | )
|                                                                                              |  |                         |         |      |  |         |   |  |         |  
|Capitalization of software development and other
costs                                        |  |                         | (8,522  | )    |  | (18,837 | ) |  | (17,743 | )
|                                                                                              |  |                         |         |      |  |         |   |  |         |  
|Purchase of minority interest in
subsidiaries                                                 |  |                         | (6,281  | )    |  | (9,737  | ) |  | (2,253  | )
|                                                                                              |  |                         |         |      |  |         |   |  |         |  
|Proceeds from realization of investment in
subsidiaries                                       |  |                         | -       |      |  | 9,661   |   |  | 4,331   |  
|                                                                                              |  |                         |         |      |  |         |   |  |         |  
|Proceeds from investments in short term bank
deposits, net                                    |  |                         | -       |      |  | 595     |   |  | (1,118  | )
|                                                                                              |  |                         |         |      |  |         |   |  |         |  
|Net cash provided (used) in investing activities                                              |  |                         | (18,855 | )    |  | 6,217   |   |  | (24,171 | )
|                                                                                              |  |                         |         |      |  |         |   |  |         |  

The accompanying notes form an integral part of the financial
statements.

F  10

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

CONSOLIDATED STATEMENTS OF CASH FLOWS

|                                                                   |  |                         |         |      |  |         |   |  |         |  
|------------------------------------------------------------------ |  | ----------------------- | ------- | ---- |  | ------- | - |  | ------- | -
|                                                                   |  | Year ended December 31, |        
|                                                                   |  |                         |        
|                                                                   |  | 2007                    |         | 2006 |  | 2005    |  
|                                                                   |  |                         |         |      |  |         |  
|                                                                   |  | (U.S. $ in thousands)   |        
|                                                                   |  |                         |        
|                                                                   |  |                         |         |      |  |         |   |  |         |  
|CASH
 FLOWS FROM FINANCING ACTIVITIES:                             |  |                         |         |      |  |         |   |  |         |  
|                                                                   |  |                         |         |      |  |         |   |  |         |  
|Spin-off consolidated company (Appendix D)                         |  |                         | -       |      |  | (24,154 | ) |  | -       |  
|                                                                   |  |                         |         |      |  |         |   |  |         |  
|Issuance of debentures (net from issuance
expense)                 |  |                         | 61,576  |      |  | -       |   |  | -       |  
|                                                                   |  |                         |         |      |  |         |   |  |         |  
|Issuance of convertible debt                                       |  |                         | -       |      |  | 14,140  |   |  | -       |  
|                                                                   |  |                         |         |      |  |         |   |  |         |  
|Issuance of shares                                                 |  |                         | -       |      |  | -       |   |  | 33,307  |  
|                                                                   |  |                         |         |      |  |         |   |  |         |  
|Exercise of share options in subsidiaries                          |  |                         | 4,888   |      |  | 7,570   |   |  | 2,217   |  
|                                                                   |  |                         |         |      |  |         |   |  |         |  
|Dividend distribution                                              |  |                         | -       |      |  | -       |   |  | (50,185 | )
|                                                                   |  |                         |         |      |  |         |   |  |         |  
|Dividend to minority shareholders in
subsidiaries                  |  |                         | (8,348  | )    |  | (4,239  | ) |  | (8,352  | )
|                                                                   |  |                         |         |      |  |         |   |  |         |  
|Short-term bank credit, net                                        |  |                         | (16,944 | )    |  | (17,780 | ) |  | 5,467   |  
|                                                                   |  |                         |         |      |  |         |   |  |         |  
|Repayment of long-term loans                                       |  |                         | (61,630 | )    |  | (9,676  | ) |  | (19,629 | )
|                                                                   |  |                         |         |      |  |         |   |  |         |  
|Receipt of long-term loans                                         |  |                         | 26,275  |      |  | 31,372  |   |  | 51,156  |  
|                                                                   |  |                         |         |      |  |         |   |  |         |  
|Issuance in a subsidiary to minority shareholders,
net             |  |                         | 12,915  |      |  | 5,998   |   |  | 5,344   |  
|                                                                   |  |                         |         |      |  |         |   |  |         |  
|Convertible debt issuance expenses in a
subsidiary                 |  |                         | -       |      |  | (655    | ) |  | -       |  
|                                                                   |  |                         |         |      |  |         |   |  |         |  
|Deposit for SWAP deal                                              |  |                         | (1,040  | )    |  | -       |   |  | -       |  
|                                                                   |  |                         |         |      |  |         |   |  |         |  
|Repayment and repurchase of debenture                              |  |                         | (7,818  | )    |  | (6,219  | ) |  | (18,357 | )
|                                                                   |  |                         |         |      |  |         |   |  |         |  
|Proceeds from sale of treasury stock of
subsidiary                 |  |                         | 3,017   |      |  | -       |   |  | -       |  
|                                                                   |  |                         |         |      |  |         |   |  |         |  
|Purchase of treasury stock in a subsidiary by a
subsidiary thereof |  |                         | -       |      |  | (307    | ) |  | (4,134  | )
|                                                                   |  |                         |         |      |  |         |   |  |         |  
|Net cash provided (used) by financing activities                   |  |                         | 12,891  |      |  | (3,950  | ) |  | (3,166  | )
|                                                                   |  |                         |         |      |  |         |   |  |         |  
|Effect of exchange rate changes on cash and cash
 equivalents      |  |                         | 7,824   |      |  | 6,418   |   |  | (4,356  | )
|                                                                   |  |                         |         |      |  |         |   |  |         |  
|NET INCREASE (DECREASE) IN CASH AND CASH
EQUIVALENTS               |  |                         | 45,125  |      |  | 34,635  |   |  | (25,407 | )
|                                                                   |  |                         |         |      |  |         |   |  |         |  
|CASH AND CASH EQUIVALENTS AT BEGINNING OF
YEAR(*)                  |  |                         | 116,401 |      |  | 81,767  |   |  | 107,174 |  
|                                                                   |  |                         |         |      |  |         |   |  |         |  
|CASH AND CASH EQUIVALENTS AT END OF
YEAR                           |  |                         | 161,526 |      |  | 116,402 |   |  | 81,767  |  
|                                                                   |  |                         |         |      |  |         |   |  |         |  

(*) Include cash and cash equivalents of discontinued operations.

The accompanying notes form an integral part of the financial
statements.

F  11

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

CONSOLIDATED STATEMENTS OF CASH FLOWS

Appendix A  Supplemental cash flow
information:

|                                         |  |                         |       |      |  |       |  |  |        | 
|---------------------------------------- |  | ----------------------- | ----- | ---- |  | ----- |  |  | ------ | 
|                                         |  | Year ended December 31, |      
|                                         |  |                         |      
|                                         |  | 2007                    |       | 2006 |  | 2005  | 
|                                         |  |                         |       |      |  |       | 
|                                         |  | (U.S. $ in thousands)   |      
|                                         |  |                         |      
|                                         |  |                         |       |      |  |       |  |  |        | 
|Cash paid during the year in respect of: |  |                         |       |      |  |       |  |  |        | 
|                                         |  |                         |       |      |  |       |  |  |        | 
|Interest                                 |  |                         | 6,107 |      |  | 9,965 |  |  | 10,052 | 
|                                         |  |                         |       |      |  |       |  |  |        | 
|Income tax                               |  |                         | 6,648 |      |  | 7,717 |  |  | 7,467  | 
|                                         |  |                         |       |      |  |       |  |  |        | 

Appendix B  Non-cash activities:

|                                                                                                                            |  |                         |     |      |  |      |  |  |       | 
|--------------------------------------------------------------------------------------------------------------------------- |  | ----------------------- | --- | ---- |  | ---- |  |  | ----- | 
|                                                                                                                            |  | Year ended December 31, |    
|                                                                                                                            |  |                         |    
|                                                                                                                            |  | 2007                    |     | 2006 |  | 2005 | 
|                                                                                                                            |  |                         |     |      |  |      | 
|                                                                                                                            |  | (U.S. $ in thousands)   |    
|                                                                                                                            |  |                         |    
|                                                                                                                            |  |                         |     |      |  |      |  |  |       | 
|Purchase of fixed assets against trade
  payables                                                                           |  |                         | -   |      |  | 21   |  |  | 343   | 
|                                                                                                                            |  |                         |     |      |  |      |  |  |       | 
|                                                                                                                            |  |                         |     |      |  |      |  |  |       | 
|Investment in a consolidated company
  against issuance of share capital to minority shareholders of consolidated
  company |  |                         | -   |      |  | 275  |  |  | 1,577 | 
|                                                                                                                            |  |                         |     |      |  |      |  |  |       | 
|                                                                                                                            |  |                         |     |      |  |      |  |  |       | 
|Investment in a consolidated company
  against account payable                                                              |  |                         | 949 |      |  | -    |  |  | -     | 
|                                                                                                                            |  |                         |     |      |  |      |  |  |       | 
|                                                                                                                            |  |                         |     |      |  |      |  |  |       | 
|Purchase of shares from minority
  shareholders of subsidiary, against accounts payable                                     |  |                         | -   |      |  | -    |  |  | 100   | 
|                                                                                                                            |  |                         |     |      |  |      |  |  |       | 
|                                                                                                                            |  |                         |     |      |  |      |  |  |       | 
|Investments in available marketable
  securities, against accounts payable                                                  |  |                         | -   |      |  | 884  |  |  | -     | 
|                                                                                                                            |  |                         |     |      |  |      |  |  |       | 
|                                                                                                                            |  |                         |     |      |  |      |  |  |       | 
|Exchange of assets in a subsidiary                                                                                          |  |                         | -   |      |  | -    |  |  | 70    | 
|                                                                                                                            |  |                         |     |      |  |      |  |  |       | 
|                                                                                                                            |  |                         |     |      |  |      |  |  |       | 
|Fin 48 provision                                                                                                            |  |                         | 430 |      |  | -    |  |  | -     | 
|                                                                                                                            |  |                         |     |      |  |      |  |  |       | 
|                                                                                                                            |  |                         |     |      |  |      |  |  |       | 
|Current maturities of royalties liabilities
  against account receivables                                                   |  |                         | -   |      |  | -    |  |  | 13    | 
|                                                                                                                            |  |                         |     |      |  |      |  |  |       | 

The accompanying notes form an integral part
of the financial statements.

F  12

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

CONSOLIDATED STATEMENTS OF CASH FLOWS

Appendix C  Acquisition of newly-consolidated subsidiaries:

|                                                                              |  |                         |         |      |  |         |   |  |        |  
|----------------------------------------------------------------------------- |  | ----------------------- | ------- | ---- |  | ------- | - |  | ------ | -
|                                                                              |  | Year ended December 31, |        
|                                                                              |  |                         |        
|                                                                              |  | 2007                    |         | 2006 |  | 2005    |  
|                                                                              |  |                         |         |      |  |         |  
|                                                                              |  | (U.S. $ in thousands)   |        
|                                                                              |  |                         |        
|Assets and liabilities of subsidiaries consolidated
  as of acquisition date: |  |                         |         |      |  |         |   |  |        |  
|                                                                              |  |                         |         |      |  |         |   |  |        |  
|Working capital (other than cash and cash
equivalents)                        |  |                         | 3,603   |      |  | 2,327   |   |  | 5,446  |  
|                                                                              |  |                         |         |      |  |         |   |  |        |  
|Liabilities arising from the acquisition                                      |  |                         | -       |      |  | -       |   |  | 209    |  
|                                                                              |  |                         |         |      |  |         |   |  |        |  
|Investment in affiliates and loans                                            |  |                         | 375     |      |  | 370     |   |  | 801    |  
|                                                                              |  |                         |         |      |  |         |   |  |        |  
|Property and equipment                                                        |  |                         | (308    | )    |  | (480    | ) |  | (813   | )
|                                                                              |  |                         |         |      |  |         |   |  |        |  
|Other assets and deferred expenses*                                           |  |                         | (10,857 | )    |  | (3,985  | ) |  | (4,697 | )
|                                                                              |  |                         |         |      |  |         |   |  |        |  
|Other assets arising upon acquisition                                         |  |                         | -       |      |  | (13,855 | ) |  | (7,981 | )
|                                                                              |  |                         |         |      |  |         |   |  |        |  
|Long-term liabilities                                                         |  |                         | 925     |      |  | (305    | ) |  | 533    |  
|                                                                              |  |                         |         |      |  |         |   |  |        |  
|Other long term assets                                                        |  |                         | (212    | )    |  | -       |   |  | -      |  
|                                                                              |  |                         |         |      |  |         |   |  |        |  
|Long term deferred tax                                                        |  |                         | (64     | )    |  | -       |   |  | -      |  
|                                                                              |  |                         |         |      |  |         |   |  |        |  
|Issuance of shares by a subsidiary                                            |  |                         | -       |      |  | -       |   |  | 1,408  |  
|                                                                              |  |                         |         |      |  |         |   |  |        |  
|Minority interest at acquisition date                                         |  |                         | 1,147   |      |  | -       |   |  | (248   | )
|                                                                              |  |                         |         |      |  |         |   |  |        |  
|Total                                                                         |  |                         | (5,391  | )    |  | (15,928 | ) |  | (5,342 | )
|                                                                              |  |                         |         |      |  |         |   |  |        |  

* Mainly goodwill

Appendix D - Proceeds from realization of investments in
previously-consolidated subsidiaries:

|                                                                                |  |                         |         |      |  |         |   |  |   | 
|------------------------------------------------------------------------------- |  | ----------------------- | ------- | ---- |  | ------- | - |  | - | 
|                                                                                |  | Year ended December 31, |        
|                                                                                |  |                         |        
|                                                                                |  | 2007                    |         | 2006 |  | 2005    |  
|                                                                                |  |                         |         |      |  |         |  
|                                                                                |  | (U.S. $ in thousands)   |        
|                                                                                |  |                         |        
|Assets and liabilities of consolidated subsidiaries as of
  date of realization |  |                         |         |      |  |         |   |  |   | 
|                                                                                |  |                         |         |      |  |         |   |  |   | 
|Working capital (other than cash and cash
equivalents)                          |  |                         | 9,434   |      |  | (43,835 | ) |  | - | 
|                                                                                |  |                         |         |      |  |         |   |  |   | 
|Debtors from sale of subsidiaries                                               |  |                         | (16,000 | )    |  | -       |   |  | - | 
|                                                                                |  |                         |         |      |  |         |   |  |   | 
|Investments and loans in subsidiaries                                           |  |                         | -       |      |  | 13,056  |   |  | - | 
|                                                                                |  |                         |         |      |  |         |   |  |   | 
|Accrued severance pay, net                                                      |  |                         | (2,036  | )    |  | (2,175  | ) |  | - | 
|                                                                                |  |                         |         |      |  |         |   |  |   | 
|Investment in affiliate (including loans)                                       |  |                         | (4,151  | )    |  | 1,642   |   |  | - | 
|                                                                                |  |                         |         |      |  |         |   |  |   | 
|Property and equipment                                                          |  |                         | 2,843   |      |  | 4,546   |   |  | - | 
|                                                                                |  |                         |         |      |  |         |   |  |   | 
|Other assets, deferred expenses and long term
payables                          |  |                         | 37,032  |      |  | 43,520  |   |  | - | 
|                                                                                |  |                         |         |      |  |         |   |  |   | 
|Provision for losses                                                            |  |                         | (1,971  | )    |  | -       |   |  | - | 
|                                                                                |  |                         |         |      |  |         |   |  |   | 
|Long term deposits                                                              |  |                         | 1,181   |      |  | 368     |   |  | - | 
|                                                                                |  |                         |         |      |  |         |   |  |   | 
|Goodwill                                                                        |  |                         | 54,462  |      |  | 6,462   |   |  | - | 
|                                                                                |  |                         |         |      |  |         |   |  |   | 
|Other comprehensive (loss) gain                                                 |  |                         | 570     |      |  | (755    | ) |  | - | 
|                                                                                |  |                         |         |      |  |         |   |  |   | 
|Long-term liabilities                                                           |  |                         | (28,833 | )    |  | (246    | ) |  | - | 
|                                                                                |  |                         |         |      |  |         |   |  |   | 
|Gain (loss) from realization of investments in
subsidiaries                     |  |                         | 28,037  |      |  | (4,383  | ) |  | - | 
|                                                                                |  |                         |         |      |  |         |   |  |   | 
|Retained earnings                                                               |  |                         | -       |      |  | (27,015 | ) |  | - | 
|                                                                                |  |                         |         |      |  |         |   |  |   | 
|Minority interest                                                               |  |                         | (41,069 | )    |  | (16,920 | ) |  | - | 
|                                                                                |  |                         |         |      |  |         |   |  |   | 
|Total                                                                           |  |                         | 39,499  |      |  | (25,735 | ) |  | - | 
|                                                                                |  |                         |         |      |  |         |   |  |   | 

The accompanying notes form an integral part of the financial
statements.

F  13

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE
CONSOLIDATED FINANCIAL STATEMENTS

Note 1  Summary of Significant Accounting
Policies:

General:

Formula
Systems (1985) Ltd. (Formula) was incorporated in Israel in 1985. Since 1991,
Formulas shares have been traded on the Tel Aviv Stock Exchange (the TASE)
and since 1997, through American Depositary Shares (ADS) under the symbol
FORTY on the NASDAQ Global Market in the United States. Each ADS represents one
ordinary share of Formula.

Formula,
through its subsidiaries (collectively, the Company or the Group) is
engaged in the development, production and marketing of information technology
(IT) solutions and services. The Group operates in two reportable segments:
IT Services and Proprietary Software Solutions. For a description of the
segments see Note 15H.

The following
table presents certain information regarding the control and ownership of
Formulas significant subsidiaries and material investments, as of the dates
indicated:

Name
of subsidiary:

|                                                                                           |  |                                     |        |                     |  |        | 
|------------------------------------------------------------------------------------------ |  | ----------------------------------- | ------ | ------------------- |  | ------ | 
|                                                                                           |  | Percentage of ownership and control |       
|                                                                                           |  |                                     |       
|                                                                                           |  | December 31,
  2007                 |        | December 31,
  2006 | 
|                                                                                           |  |                                     |        |                     | 
|                                                                                           |  | %                                   |       
|                                                                                           |  |                                     |       
|                                                                                           |  |                                     |       
|Matrix IT Ltd. (Matrix)                                                                  |  |                                     | 50.13  |                     |  | 50.26  | 
|                                                                                           |  |                                     |        |                     |  |        | 
|BluePhoenix Solutions Ltd. (BluePhoenix)
  (formerly - Crystal Systems Solutions Ltd.) |  |                                     | *-     |                     |  | 56.22  | 
|                                                                                           |  |                                     |        |                     |  |        | 
|Magic Software Enterprises Ltd. (Magic)                                                  |  |                                     | 51.26  |                     |  | 50.01  | 
|                                                                                           |  |                                     |        |                     |  |        | 
|NextSource Inc.                                                                            |  |                                     | 100.00 |                     |  | 100.00 | 
|                                                                                           |  |                                     |        |                     |  |        | 
|Sapiens International Corporation N.V.
  (Sapiens)                                       |  |                                     | 54.60  |                     |  | 61.96  | 

The above list
consists only of active companies that are held directly by Formula.

* See note 2A

Accounting Principles

The
consolidated financial statements have been prepared in accordance with
generally accepted accounting principles (GAAP) as applied in the United States.

F  14

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 1  Summary of Significant Accounting
Policies (cont.):

|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|-- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|A. | Functional and Reporting Currency:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|   | Beginning in
  2007, the Company changed its functional currency from NIS to the United
  States dollar (dollar). This was done according to a change in economic and
  circumstance factors for the Company, as mentioned in financial accounting
  standards board statement No. 52 foreign currency translation. Prior to
  2007, Formula operated primarily in the economic environment of the New
  Israeli Shekel (NIS) and its functional currency was the NIS. The functional
  currencies of Formulas subsidiaries are the NIS and the dollar. Formula has elected
  to use the dollar as its reporting currency for all years presented.            
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|   | Formula
  translates the financial statements of its subsidiaries whose functional
  currency is the NIS, into dollars, under the principles described in
  Financial Accounting Standards Board Statement No. 52. Assets and liabilities
  have been translated at period-end exchange rates. Results of operations have
  been translated at the exchange rate at the dates on which those transactions
  occurred or at an average rate. Formula presents differences resulting from
  translation under shareholders equity in the item accumulating other
  comprehensive income (loss).                                                                     
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|   | The
  comparative figures for 2006 and 2005 have been measured under the assumption
  that formulas functional currency was the NIS.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|   | The
  financial statements of prior years of Formula and most of its subsidiaries
  whose functional currency is the NIS have been translated into dollars under
  the principles described in Financial Accounting Standards Board Statement
  No. 52, Foreign Currency Translation. Assets and liabilities have been
  translated at period-end exchange rates. The results of operations have been
  translated at the exchange rates on the dates on which the transactions
  occurred or at average exchange rates. Differences resulting from translation
  are presented under shareholders equity, in the item accumulated other
  comprehensive loss.
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|B. | Use of Estimates and Assumptions in the Preparation of the Financial
  Statements:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|   | The
  preparation of financial statements in conformity with generally accepted
  accounting principles requires management to make estimates and assumptions
  that affect the reported amounts of assets and liabilities, the disclosure of
  contingent assets and liabilities as of the dates of the financial statements
  and the reported amounts of revenues and expenses during the reporting
  periods. The actual results may differ from these estimates.                                                                                                                                                                                              

F  15

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

Note 1  Summary of Significant Accounting
Policies (cont.):

|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|-- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|C. | Principles of Consolidation:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|   | The
  consolidated financial statements include Formulas financial statements as
  well as those of its subsidiaries in which it has a controlling interest.
  Acquisition of subsidiaries is accounted for under the purchase method. All
  inter-company balances and transactions have been eliminated upon
  consolidation.                                                                                                                                                                                                                                       
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|D. | Cash and Cash Equivalents:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|   | Cash
  equivalents are considered by the Company to be highly-liquid investments,
  including, inter-alia, short-term deposits with banks, the maturity of which
  did not exceed three months at the time of acquisition and which are
  unrestricted.                                                                                                                                                                                                                                                                                                                
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|E. | Investments:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|   | Investments
  in non-marketable securities of companies in which the Company does not have
  the ability to exercise significant influence over operating and financial
  policy are recorded at cost. The Company accounts for investments in
  marketable equity securities and debt securities in accordance with SFAS No.
  115, Accounting for Certain Investments in Debt and Equity Securities (SFAS
  No. 115). Marketable equity securities and debt securities that are
  classified as trading or as available-for-sale are reported at fair
  value.
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|   | Unrealized
  gains and losses from marketable securities classified as available for
  sale are excluded from earnings and are reported as a component of
  accumulated other comprehensive income (loss) in shareholders equity.                                                                                                                                                                                                                                                                                                                                   
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|   | Unrealized
  gains and losses from marketable securities classified as trading are
  reported in the statement of income.                                                                                                                                                                                                                                                                                                                                                                                                                                            
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|   | Investments
  are periodically reviewed to determine whether other-than-temporary
  impairment in value has occurred, in which case the investment is written
  down to its fair value, Through the income statements.                                                                                                                                                                                                                                                                                                                                                 
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|F. | Provision for Doubtful Accounts:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|   | The
  provision for doubtful accounts was calculated on the basis of specific
  receivables, where, in the opinion of Group management, doubt exists as to
  their collectability.                                                                                                                                                                                                                                                                                                                                                                                     
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|G. | Inventory:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|   | Inventory is
  comprised of hardware and software.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|   | Inventory is
  valued at the lower of cost or market value. Cost is determined on the first
  in - first out basis for hardware.                                                                                                                                                                                                                                                                                                                                                                                                                                     

F  16

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 1  Summary of Significant Accounting
Policies (cont.):

|   |                                                                                                                                                                                                                                                    
|-- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|H. | Investments in Affiliates:                                                                                                                                                                                                                         
|   |                                                                                                                                                                                                                                                    
|   | Affiliates
  are companies over which significant influence is exercised, but which are not
  consolidated subsidiaries, and are accounted for by the equity method, net of
  write-down for decrease in value, which is not of a temporary nature.
|   |                                                                                                                                                                                                                                                    
|I. | Property and Equipment, net:                                                                                                                                                                                                                       
|   |                                                                                                                                                                                                                                                    
|   | Property and
  equipment are stated at cost, net of accumulated depreciation. Depreciation
  is calculated by the straight-line method over their estimated useful lives.
  The following are the annual depreciation rates:                       

| |                           |  |   |      | 
| | ------------------------- |  | - | ---- | 
| |                           |  | % |     
| |                           |  |   |     
| |                           |  |   |     
| | Computers
  and equipment |  |   | 7-33 | 
| |                           |  |   |      | 
| | Motor
  vehicles          |  |   | 15   | 
| |                           |  |   |      | 
| | Buildings                 |  |   | 2-4  | 
| |                           |  |   |      | 
| | Leasehold
  improvements  |  |   | -*   | 

|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|-- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   | *Over the
  term of the lease or the estimated useful life of the assets, whichever is
  shorter.                                                                                                                                                                                                                                                                                                                                                                                                         
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|J. | Goodwill:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|   | The Company
  applies Statement of Financial Accounting Standards No. 142, Goodwill and
  Other Intangible Assets (SFAS 142). SFAS 142 requires goodwill to be
  tested for impairment on an annual basis and more frequently in certain
  circumstances, and written down when impaired rather than being amortized.
  Furthermore, SFAS 142 requires purchased intangible assets other than
  goodwill to be amortized over their useful lives unless those lives are
  determined to be indefinite.
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|   | The Company
  has selected December 31st as the date on which it will perform its annual
  goodwill impairment test.                                                                                                                                                                                                                                                                                                                                                                                      
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|   | Goodwill
  related to equity method investees is not amortized (as of January 1, 2002
  and thereafter) but the investment is tested for impairment under the
  provisions of APB 18.                                                                                                                                                                                                                                                                                                                     
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|   | As of
  December 31, 2007, 2006 and 2005, no impairment was required.                                                                                                                                                                                                                                                                                                                                                                                                                                     
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|K. | Software Development Costs:                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|   | Development
  costs of software, which is intended for sales that are incurred after the
  establishment of technological feasibility of the relevant product, are
  capitalized. Technological feasibility is determined when detailed program
  design is completed and verified in accordance with the provisions of SFAS
  No. 86, Accounting for the Costs of Computer Software to Be Sold, Leased, or
  Otherwise Marketed.                                                                       

F  17

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 1  Summary of Significant Accounting Policies (cont.):

|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|-- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|K. | Software Development Costs (cont.):                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|   | Software
  development costs incurred before technological feasibility has been
  established are charged to the statement of operations as incurred, net of
  participation of the Office of the Chief Scientist of the Israeli Ministry of
  Industry and Trade (the OCS).Amortization of capitalized software development
  costs begins when the product is available for general release to customers.
  Annual amortization is calculated according to the higher of the
  straight-line method over the remaining useful life of the product or based
  on the ratio of current gross revenues to current and anticipated future
  gross revenues. At present, amortization is computed under the straight-line
  method, mainly over a period of 3-5 years. During the year ended December 31,
  2007, consolidated subsidiaries capitalized software development costs
  aggregating $6.2 million (2006 - $8.5 million, 2005 - $8.4 million) and
  amortized capitalized software development costs aggregating $6.4 million
  (2006 - $8.9 million, 2005 - $7.4 million).
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|   | Management
  estimates that the total capitalized costs do not exceed the net realizable
  value of the software product. In the event that unamortized software
  development costs exceed the net realizable value of the product, they are
  written down to net realizable value. As of December 31, 2007, no impairment
  was recorded.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|L. | Other Intangible Assets:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|   | Other
  intangible assets are comprised of customers related intangible assets and
  acquired technology and are amortized over their useful lives using a method
  of amortization that reflects the pattern in which the economic benefits of
  the intangible assets are consumed or otherwise used up. Customers and
  acquired technology are amortized over a period of 8 and 5-10 years,
  respectively. The Company reviews the useful life of its intangible assets annually.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|M. | Impairment in Value of Long-Lived Assets:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|   | The
  Companys long-lived assets are reviewed for impairment in accordance with
  Statement of Financial Accounting Standard No. 144, Accounting for the
  Impairment or Disposal of Long-lived Assets (SFAS No. 144), whenever
  events or changes in circumstances indicate that the carrying amount of an
  asset may not be recoverable. The recoverability of assets held and used is
  measured by a comparison of the carrying amount of the assets to the future
  undiscounted cash flows expected to be generated by the assets. If such
  assets are considered to be impaired, the impairment to be recognized is
  measured by the amount by which the carrying amount of the assets exceeds the
  fair value of the assets. During 2007, impairment loss in the amount of $137
  thousand has been identified. For the years ended December 31, 2006 and 2005,
  no impairment losses have been identified.                                                                                                                                                       

F  18

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 1  Summary of Significant Accounting Policies (cont.):

|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|-- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|N. | Severance Pay:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|   | The
  Companys liability for severance pay to its employees pursuant to Israeli
  law and employment agreements is covered in part by managers insurance
  policies, for which the Company makes monthly payments. The value of these
  policies is recorded as an asset in the Companys balance sheet. The Company
  may only make withdrawals from the managers insurance policies for the
  purpose of paying severance pay. The severance pay liability is calculated on
  the basis of one months salary for each year of service, based on the most
  recent salary of each employee.Pursuant to Section 14 of the Severance
  Compensation Law, 1963 (Section 14), certain employees of the Company who
  are subjected to this section, are entitled only to monthly deposits, at a
  rate of 8.33% of their monthly salary, made in their name with insurance
  companies. Payments in accordance with Section 14 release the Company from
  any future severance payments in respect of those employees. Deposits under
  Section 14 are not recorded as an asset in the Companys balance sheet.
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|   | The expenses
  in respect of severance pay for the years ended December 31, 2007, 2006 and
  2005 were $9.3 million, $5.6 million and $6.4 million, respectively.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|O. | Revenue Recognition:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|   | Revenues
  derived from direct software license agreements are recognized in accordance
  with Statement of Position (SOP) 97-2 Software Revenue Recognition (as
  amended by SOP 98-4 and SOP 98-9), upon delivery of the software when
  collection is probable, where the license fee is otherwise fixed or
  determinable, and when there is persuasive evidence that an arrangement
  exists.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|   | In addition,
  there are certain arrangements involving multiple elements such as software
  product, maintenance and support.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|   | For these
  multiple elements, SOP 97-2 requires that the fair value of each component in
  a multiple element arrangement will be determined based on the vendors
  specific objective evidence (VSOE) for that element, and revenue is allocated
  to each component based on its fair value.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  

F  19

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 1  Summary of Significant Accounting
Policies (cont.):

|   |                                                                                                                                                                                                                                                                                                                                                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|-- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|O. | Revenue Recognition (cont.):                                                                                                                                                                                                                                                                                                                   
|   |                                                                                                                                                                                                                                                                                                                                                
|   | SOP 98-9
  requires that revenue be recognized under the residual method when VSOE
  does not exist for all the delivered elements, VSOE of fair value exists for
  all undelivered elements, and all other SOP 97-2 criteria are met. Under the
  residual method, any discount in the arrangement is allocated to the delivered
  elements.
|   |                                                                                                                                                                                                                                                                                                                                                
|   | The VSOE for
  maintenance and support is established by the price charged on other time
  based consulting service contracts where no sale of other elements is
  involved. The revenue associated with the delivered elements is recognized
  using the residual method discussed above.                                                     
|   |                                                                                                                                                                                                                                                                                                                                                
|   | Revenues
  from consulting services, consisting of billable hours for services provided,
  are recognized as the services are rendered.                                                                                                                                                                                                        
|   |                                                                                                                                                                                                                                                                                                                                                
|   | Revenues
  from maintenance and training contracts are recognized relatively over the
  contract period.                                                                                                                                                                                                                                       
|   |                                                                                                                                                                                                                                                                                                                                                
|   | The Company
  recognizes revenues from consulting fees with respect to projects billed on a
  time and material basis, based on the number of hours performed.                                                                                                                                                                                 
|   |                                                                                                                                                                                                                                                                                                                                                
|   | The Company
  recognizes revenues from projects as follows:                                                                                                                                                                                                                                                                                    
|   |                                                                                                                                                                                                                                                                                                                                                
|   | (i)                                                                                                                                                                                                                                                                                                                                             | Revenue from
  projects billed on a time and material basis is recognized in accordance with
  SOP 81-1 Accounting for Performance of Construction - Type and Certain
  Production - Type Contracts, using contract accounting on a percentage of
  completion method, on the basis of the relationship between actual costs
  incurred and the total costs that are expected to be incurred over the
  duration of the contract. Provision is made for estimated losses and
  uncompleted contracts, in the amount of the estimated losses on the entire
  contract in the period in which such losses first become evident.
|   |                                                                                                                                                                                                                                                                                                                                                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|   | (ii)                                                                                                                                                                                                                                                                                                                                            | Revenue from
  fixed fee contracts is also recognized in accordance with the percentage of
  completion method. The Company recognizes contract losses, if any, in the
  period in which they first become evident.                                                                                                                                                                                                                                                                                                                                                                                                            
|   |                                                                                                                                                                                                                                                                                                                                                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|   | Revenues
  from sale of hardware are recognized when the merchandise is delivered to the
  customer, provided no significant vendor obligations remain.                                                                                                                                                                                        
|   |                                                                                                                                                                                                                                                                                                                                                
|   | The Company
  generally does not grant a right of return to its customers. When a right of
  return exists, revenue is deferred until the right of return expires, at
  which time revenue is recognized provided that all other revenue recognition
  criteria are met.                                                                       

F  20

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 1  Summary of Significant Accounting
Policies (cont.):

|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|-- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|O. | Revenue Recognition (cont.):                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|   | Deferred
  revenue includes unearned amounts received under maintenance contracts and
  amounts received from customers but not yet recognized as revenues. Payments
  for maintenance fees are generally made in advance and are nonrefundable.                                                                                                                                                                                                                                                                                                                                                                                               
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|   | Management
  believes that the Companys revenue recognition policies are in accordance
  with the Securities and Exchange Commission Staff Accounting Bulletin No. 101
  and SAB 104, Revenue Recognition in Financial Statements.                                                                                                                                                                                                                                                                                                                                                                                                          
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|P. | Government Grants:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|   | Royalty-bearing
  grants from the Government of Israel for the funding of research and
  development projects are recognized at the time that the Company is entitled
  to such grants on the basis of the related costs incurred, and are recorded
  as a deduction from research and development costs. The Company also received
  non-royalty-bearing grants from the Fund for the Encouragement of Marketing
  Activity. These grants are recognized at the time the Company is entitled to
  such grants, on the basis of the costs incurred, and included as a deduction
  from selling, marketing, general and administrative expenses.
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|Q. | Provision for Warranty:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|   | In light of
  past experience, Formula and its subsidiaries do not record any provision for
  warranties in respect of their products and services.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|R. | Advertising Costs:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|   | The Company
  records advertising expenses as incurred. Advertising costs were recorded on
  the amount of $5.1 million, $2.4 million, and $1.5 million in the years 2007,
  2006, 2005 respectively.                                                                                                                                                                                                                                                                                                                                                                                                                                          
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|S. | Gain on Realization of Shareholdings:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|   | Gain on
  realization of shareholdings includes the results of realization of the
  Companys shareholdings in investees arising either on the sale of such
  shareholdings or from the issuance of stock by the investees to third
  parties, which is recognized in accordance with the provisions of Staff
  Accounting Bulletin (SAB) No. 51 issued by the Securities and Exchange
  Commission. The Company charges such results to the statement of operations,
  provided that the conditions stipulated by SAB 51 for such recognition have
  been met.                                                                                

F  21

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 1  Summary of Significant Accounting
Policies (cont.):

|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|-- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|T. | Deferred Income Taxes:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|   | Formula and
  its subsidiaries account for income taxes in accordance with Statement of
  Financial Accounting Standard No. 109, Accounting for Income Taxes (SFAS
  No. 109). This Statement prescribes the use of the liability method whereby
  deferred tax assets and liability account balances are determined based on
  the differences between the financial reporting and tax bases of assets and
  liabilities and are measured using the enacted tax rates and laws that will
  be in effect when the differences are expected to reverse. Formula and its
  subsidiaries provide a valuation allowance, where necessary, in order to reduce
  deferred tax assets to an amount that is more likely than not to be realized,
  in future years.In September 2006, the FASB issued Interpretation No. 48,
  Accounting for Uncertainty in Income Taxes, an Interpretation of FASB
  Statement No. 109 (FIN 48). FIN 48 contains a two-step approach to
  recognizing and measuring uncertain tax positions accounted for in accordance
  with SFAS No. 109. The first step is to evaluate the tax position taken or
  expected to be taken in a tax return by determining if the weight of
  available evidence indicates that it is more likely than not that, on an
  evaluation of the technical merits, the tax position will be sustained on
  audit, including resolution of any related appeals or litigation processes.
  The second step is to measure the tax benefit as the largest amount that is
  more than 50% likely to be realized upon ultimate settlement. This
  interpretation is effective for fiscal years beginning after December 15,
  2006. The adoption of FIN 48, on January 1, 2007
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|U. | Earnings (Loss) Per Share:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|   | Earnings per
  share (EPS) are calculated in accordance with the provisions of SFAS No.
  128 of the FASB (SFAS 128). SFAS 128, Earnings per Share requires the
  presentation of both basic and diluted EPS.Basic net earnings per share are
  calculated on the basis of the weighted average number of common shares
  outstanding during each year. The diluted earnings per share are calculated
  on the basis of the weighted average number of common shares outstanding
  during each year, plus the dilutive potential common shares considered
  outstanding during the year.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|V. | Treasury Shares Held by the Company:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|   | Shares of
  the Company that are held by the Company (treasury shares) are presented as a
  reduction of shareholders equity, at their cost to the Company. Gains and
  losses upon the sale of these shares, net of related income taxes, are
  carried to additional paid-in capital and to retained earnings, respectively.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   

F  22

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 1  Summary of Significant Accounting
Policies (cont.):

|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|-- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|W. | Concentration of Credit Risks - Allowance for Doubtful Accounts:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|   | Most of the
  Groups cash and cash equivalents and short-term investments as of December
  31, 2007 and 2006 were deposited in Israeli, U.S. and European banks. The
  Company is of the opinion that the credit risk in respect of these balances
  is remote.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|   | Most of the
  Groups sales are made in Israel and North America, to a large number of customers.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|   | The Groups
  trade receivables are derived from sales to large firm organizations located
  mainly in North America and Israel. The Group performs ongoing credit
  evaluations of its customers and has established an allowance for doubtful
  accounts based upon factors relating to the credit risk of specific customers
  and other information. In certain circumstances, the Company may require
  letters of credit, other collateral or additional guarantees. From time to
  time, the Company sells certain of its accounts receivable to financial
  institutions, within the normal course of business.                                                                                                                                                                                                
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|   | SFAS No.
  140, Accounting for Transfers and Servicing of Financial Assets and
  Extinguishments of Liabilities (SFAS No. 140), establishes a standard for
  determining when a transfer of financial assets should be accounted for as a
  sale. The underlying conditions are met for the transfer of financial assets
  to qualify for accounting as a sale. The transfers of financial assets are
  typically performed by the sale of receivables to a financial institution.                                                                                                                                                                                                                                                                                                                                     
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|   | The
  agreements, pursuant to which the Company sells its trade receivables, are
  structured such that the Company (i) transfers the proprietary rights in the
  receivable from the Company to the financial institution; (ii) legally
  isolates the receivable from the Companys other assets, and presumptively
  puts the receivable beyond the legal reach of the Company and its creditors,
  even in bankruptcy or other receivership; (iii) confers on the financial
  institution the right to pledge or exchange the receivable; and (vi)
  eliminates the Companys effective control over the receivable, in the sense
  that the Company is not entitled and shall not be obligated to repurchase the
  receivable other than in case of failure by the Company to fulfill its
  commercial obligation.
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|   | Formula and
  its subsidiaries had no off-balance-sheet concentration of credit risk as of
  December 31, 2007.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|   | The
  provision for doubtful accounts charged to general and administrative
  expenses amounted to $0.58 million, $1.3 million and $1.7 million in the
  years 2007, 2006 and 2005, respectively, and was determined for specific
  debts where doubt existed as to their collectability.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              

F  23

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 1  Summary of Significant Accounting
Policies (cont.):

|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|-- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|X. | Options Granted to Employees:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|   | On January
  1, 2006, the Company adopted the provisions of Statement of Financial
  Accounting Standard No. 123 (revised 2004) (FAS 123R), Share-Based
  Payment, and Staff Accounting Bulletin No. 107 (SAB 107), which was issued
  in March 2005 by the SEC. FAS 123R addresses the accounting for share-based
  payment transactions in which the Company obtains employee services in
  exchange for equity instruments of the Company. This statement requires that
  employee equity awards be accounted for using the grant-date fair value
  method. SAB 107 provides supplemental implementation guidance on FAS 123R,
  including guidance on valuation methods, classification of compensation
  expense, income statement effects, disclosures and other issues.
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|   | FAS 123R
  supersedes the Companys previous accounting for its employee stock option
  plans using the intrinsic value-based method of accounting prescribed under
  Accounting Principles Board Opinion No. 25 (APB 25) and related
  interpretations. The Company elected to adopt the modified prospective
  transition method permitted by FAS 123R. Under such transition method, the
  new standard has been implemented from January 1, 2006, with no restatement
  of prior periods to reflect the fair value method of expensing share-based
  compensation.                                                                                                                                                                                                            
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|   | The Company
  has expensed compensation costs, applying the accelerated vesting method,
  based on the grant-date fair value estimated in accordance with the original
  provisions of FAS 123, and previously presented in the pro forma footnote
  disclosures. Results for prior periods have not been restated as explained
  above. For the year ended December 31, 2007, the Companys subsidiaries
  recorded stock-based compensation costs in the amount of $1.07 million. The
  total unrecognized compensation cost on employee stock options amounted to
  $2.4 million on December 31, 2007, and is expected to be recognized up to 5
  years.                                                                                                                         
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|   | The Company
  issues stock options to its employees and directors and provides the right to
  purchase stock pursuant to approved stock option .. Prior to the adoption of
  FAS 123R, the Company elected to follow Accounting Principles Board Opinion
  No. 25, Accounting for Stock Options Issued to Employees and related
  interpretations (collectively APB No. 25), in accounting for its stock
  option plans. Under APB No. 25, when the exercise price of an employee stock
  option is less than the market price of the underlying stock on the date of
  grant, compensation expense is recognized.                                                                                                                                                              

F  24

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 1  Summary of Significant Accounting
Policies (cont.):

|   |                                                                                                                                                                                                                                                                                                                                                                                                                                      
|-- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|X. | Options Granted to Employees (cont.):                                                                                                                                                                                                                                                                                                                                                                                                
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                      
|   | Compensation
  costs in respect of such plans in the net amounts of $70 thousand were
  charged to income in 2005. Had the compensation costs in respect of the
  Companys plans been determined based on the fair value at the grant date,
  consistent with the method of SFAS 123 as amended by SFAS 148, the Companys
  net income and earnings per share would have been decreased to the pro-forma
  amounts indicated below:

|                                                                                                                                                   |  |                                                      |        |   | 
|-------------------------------------------------------------------------------------------------------------------------------------------------- |  | ---------------------------------------------------- | ------ | - | 
|                                                                                                                                                   |  | Year Ended
  December 31,
  2005                     |       
|                                                                                                                                                   |  |                                                      |       
|                                                                                                                                                   |  | (U.S. $ in
  thousands
  except per share
  amounts) |       
|                                                                                                                                                   |  |                                                      |       
|                                                                                                                                                   |  |                                                      |        |   | 
|Net income from continuing operations, as
  reported                                                                                               |  |                                                      | 1,766  |   | 
|                                                                                                                                                   |  |                                                      |        |   | 
|Add:
  Stock-based employee compensation expenses included in reported net income,
  net of related tax effects                                    |  |                                                      | 70     |   | 
|                                                                                                                                                   |  |                                                      |        |   | 
|Less: Total stock-based employee
  compensation expenses determined under the fair value based method for all
  awards, net of related tax effects |  |                                                      | (3,180 | ) | 
|                                                                                                                                                   |  |                                                      |        |   | 
|Pro-forma net income                                                                                                                               |  |                                                      | (1,344 | ) | 
|                                                                                                                                                   |  |                                                      |        |   | 
|Earnings per share from continuing
  operations:                                                                                                   |  |                                                      |        |   | 
|                                                                                                                                                   |  |                                                      |        |   | 
|Basic - as reported                                                                                                                                |  |                                                      | 0.14   |   | 
|                                                                                                                                                   |  |                                                      |        |   | 
|Basic - pro forma                                                                                                                                  |  |                                                      | (0.10  | ) | 
|                                                                                                                                                   |  |                                                      |        |   | 
|Diluted - as reported                                                                                                                              |  |                                                      | 0.14   |   | 
|                                                                                                                                                   |  |                                                      |        |   | 
|Diluted - pro forma                                                                                                                                |  |                                                      | (0.10  | ) | 
|                                                                                                                                                   |  |                                                      |        |   | 

|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|-- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Y. | Derivatives and Hedging:                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|   | The Company
  accounts for derivatives based on Financial Accounting Standards Board
  Statement No. 133, Accounting for Derivative Instruments and Hedging Activities
  as amended (SFAS No. 133). SFAS 133 requires companies to recognize all of
  its derivative instruments at fair value. The accounting for changes in the
  fair value of a derivative instrument depends on whether it has been
  designated and qualifies as part of a hedging relationship.

F  25

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 1  Summary of Significant Accounting
Policies (cont.):

|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Y.  | Derivatives and Hedging (cont.):                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|    | Some
  subsidiaries enter into forward exchange contracts to hedge certain
  transactions denominated in foreign currencies. The purpose of Companys
  foreign currency hedging activities is to protect the subsidiaries from risk
  that the eventual dollar cash flow from international activities will be
  adversely affected by changes in the exchange rates. The subsidiaries
  forward contracts did not qualify as hedging instruments under SFAS No. 133.
  Changes in the fair value of forward contracts are reflected in the consolidated
  statements of operations as financial income or expense.                                                                          
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|    | Put options
  which were granted to minority interest during 2007 in a subsidiary have been
  measured in fair value pursuant to EITF 00-06 Accounting for Freestanding Derivative
  Financial Instruments Indexed to, and Potentially Settled in, the Stock of a
  Consolidated Subsidiary. Changes in the fair value are reflected in
  the consolidated statements of operations as financial income or expense.                                                                                                                                                                                                                                                                          
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|    | In addition,
  during 2007 the Companys subsidiary engaged in Swap deal to exchange
  interest which was linked to the CPI. This Swap deal did not qualify as
  hedging instrument under SFAS 133. Changes in the fair value are reflected in
  the consolidated statements of operation as financial income or expense.                                                                                                                                                                                                                                                                                                                                                                      
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|Z.  | Fair Value of Financial Instruments:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|    | The
  estimated fair value of financial instruments has been determined by the
  Company using available market information and valuation methodologies.
  Considerable judgment is required in estimating fair values. Accordingly, the
  estimates may not be indicative of the amounts the Company could realize in a
  current market exchange. The carrying amounts of cash and cash equivalents,
  trade receivables, short-term bank credit and trade payables approximate
  their fair values due to the short-term maturity of such instruments. The
  fair value for marketable securities is based on quoted market prices and do
  not significantly differ from a carrying amount.
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|    | The carrying
  amounts of the Companys long-term borrowing arrangements approximate their
  fair value. Fair values were estimated using discounted cash flow analyses,
  based on prevailing market borrowing rates.                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|    | The fair
  value of the convertible debentures with a carrying value in the
  amount of $10.9 million as of December 31, 2007 according to the quoted price in the
  Tel-Aviv Stock Exchange (TASE) is $10.3 million.                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|AA. | Spin-off of the Investment in Formula Vision                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|    | In December
  2006, the company spun-off its investment in Formula Vision to its
  shareholders. Formula Visions shares were distributed to the Companys
  shareholders at a pro-rata basis. According to APB 29 the spin off was
  accounted as a decrease in the Companys retained earnings and measured
  according to the book value of the investment as of the spin-off date (see
  also note 2E).                                                                                                                                                                                                                                                                                    

F  26

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 1  Summary of Significant Accounting
Policies (cont.):

|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|--- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|AB. | Discontinued operations:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|    | Under SFAS
  144, when a component of an entity, as defined in SFAS 144, has been disposed
  of or is classified as held for sale, the results of its operations,
  including the gain or loss on its disposal should be classified as
  discontinued operations and the assets and liabilities of such component
  should be classified as assets and liabilities attributed to discontinued
  operations. The operations, assets and liabilities of the component have been
  eliminated from the Companys consolidated operations and the Company will no
  longer have any significant continuing involvement in the operations of the
  component.                                                                                                                                                                                                                                                       
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|AC. | Recently Issued Accounting Pronouncements:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|    | In September
  2006, the FASB issued SFAS No. 157, Fair Value Measurements (SFAS No. 157).
  This statement provides a single definition of fair value, a framework for
  measuring fair value, and expanded disclosures concerning fair value.
  Previously, different definitions of fair value were contained in various
  accounting pronouncements creating inconsistencies in measurement and
  disclosures. SFAS No. 157 applies under those previously issued
  pronouncements that prescribe fair value as the relevant measure of value,
  except SFAS No. 123(R) and related interpretations. The statements does not
  apply to accounting standard that require or permit measurement similar to
  fair value but are not intended to measure fair value. This pronouncement is
  effective for fiscal years beginning after November 15, 2007, and interim
  periods within those fiscal years.
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|    | On February
  12, 2008, the FASB issued FASB Staff Position No. FAS 157-2, Effective Date
  of FASB Statement No. 157 (the FSP). The FSP amends FASB Statement No. 157,
  Fair Value Measurements (Statement 157), to delay the effective date of
  Statement 157 for nonfinancial assets and nonfinancial liabilities, except
  for items that are recognized or disclosed at fair value in the financial
  statements on a recurring basis (that is, at least annually). For items
  within its scope, the FSP defers the effective date of Statement 157 to
  fiscal years beginning after November 15, 2008, and interim periods within
  those fiscal years.                                                                                                                                                                                                                                              
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|    | The Company
  is currently evaluating the impact that this pronouncement may have on its
  consolidated financial statements.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|    | In February
  2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial
  Assets and Financial Liabilities. This statement provides companies with an
  option to report selected financial assets and liabilities at fair value.
  Generally accepted accounting principles have required different measurement
  attributes for different assets and liabilities that can create artificial
  volatility in earnings.                                                                                                                                                                                                                                                                                                                                                                                                                                                                          

F  27

---

---

FORMULA SYSTEMS (1985) LTD.
(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 1  Summary of Significant Accounting
Policies (cont.):

|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|AC. | Recently Issued Accounting Pronouncements (cont.):                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|    | The
  Standards objective is to reduce both complexity in accounting for financial
  instruments and the volatility in earnings caused by measuring related assets
  and liabilities differently. This Statement is effective as of the beginning
  of an entitys first fiscal year beginning after November 15, 2007. The
  Company is currently evaluating the impact that this pronouncement may have on
  its consolidated financial statements.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|    | On December
  21, 2007 the SEC staff issued Staff Accounting Bulletin No. 110 (SAB 110),
  which, effective January 1, 2008, amends and replaces SAB 107, Share-Based
  Payment. SAB 110 expresses the views of the SEC staff regarding the use of
  simplified method in developing an estimate of expected term of plain
  vanilla share options in accordance with FASB Statement No. 123 (R),
  Share-Based Payment. Under the simplified method, the expected term is
  calculated as the midpoint between the vesting date and the end of the
  contractual term of the option.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|    | The use of
  the simplified method, which was first described in staff Accounting
  Bulletin No. 107, was scheduled to expire on December 31, 2007. SAB 110 extends
  the use of the simplified method for plain vanilla awards in certain
  situations. The SEC staff does not expect the simplified method to be used
  when sufficient information regarding exercise behavior, such as historical
  exercise data or exercise information from external sources, becomes
  available.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|    | The adoption
  of SAB 110 will impact the consolidated financial statements since the
  Companys subsidiary uses the simplified method in developing an estimate
  of the expected term on its share options.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|    | In December
  2007, the FASB issued SFAS 141(R), Business Combinations. This Statement
  replaces SFAS 141, Business Combinations, and requires an acquirer to
  recognize the assets acquired, the liabilities assumed, including those
  arising from contractual contingencies, any contingent consideration, and any
  non controlling interest in the acquire at the acquisition date, measured at
  their fair values as of that date, with limited exceptions specified in the
  statement. SFAS 141(R) also requires the acquirer in a business combination
  achieved in stages (sometimes referred to as a step acquisition) to recognize
  the identifiable assets and liabilities, as well as the non controlling
  interest in the acquiree, at the full amounts of their fair values (or other
  amounts determined in accordance with SFAS 141(R)). In addition, SFAS
  141(R)s requirement to measure the non controlling interest in the acquiree
  at fair value will result in recognizing the goodwill attributable to the non
  controlling interest in addition to that attributable to the acquirer. SFAS
  141(R) amends SFAS No. 109, Accounting for Income Taxes, to require the
  acquirer to recognize changes in the amount of its deferred tax benefits that
  are recognizable because of a business combination either in income from
  continuing operations in the period of the business combination or directly
  in contributed capital, depending on the circumstances.

F  28

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

Note 1  Summary of Significant Accounting
Policies (cont.):

|                               |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|------------------------------ | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|AC.                            | Recently Issued Accounting Pronouncements (cont.):                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|                               |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|                               | It also
  amends SFAS 142, Goodwill and Other Intangible Assets, to, among other
  things, provide guidance on the impairment testing of acquired research and
  development intangible assets and assets that the acquirer intends not to
  use. SFAS 141(R) applies prospectively to business combinations for which the
  acquisition date is on or after the beginning of the first annual reporting period
  beginning on or after December 15, 2008.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|                               |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|                               | The Company
  is currently evaluating the impact that this pronouncement may have on its
  consolidated financial statements.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|                               |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|                               | In December
  2007, the FASB issued SFAS 160, No controlling Interests in Consolidated
  Financial Statements. SFAS 160 amends Accounting Research Bulletin 51,
  Consolidated Financial Statements, to establish accounting and reporting
  standards for the no controlling interest in a subsidiary and for the
  deconsolidation of a subsidiary. It also clarifies that a no controlling
  interest in a subsidiary is an ownership interest in the consolidated entity
  that should be reported as equity in the consolidated financial statements.
  SFAS 160 also changes the way the consolidated income statement is presented
  by requiring consolidated net income to be reported at amounts that include
  the amounts attributable to both the parent and the no controlling interest.
  It also requires disclosure, on the face of the consolidated statement of
  income, of the amounts of consolidated net income attributable to the parent
  and to the no controlling interest. SFAS 160 requires that a parent recognize
  a gain or loss in net income when a subsidiary is deconsolidated and requires
  expanded disclosures in the consolidated financial statements that clearly
  identify and distinguish between the interests of the parent owners and the
  interests of the no controlling owners of a subsidiary. SFAS 160 is effective
  for fiscal periods, and interim periods within those fiscal years, beginning
  on or after December 15, 2008.
|                               |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|                               | The Company
  is currently evaluating the impact that this pronouncement may have on its
  consolidated financial statements.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|                               |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|Note 2  Certain Transactions:
|                               |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|A.                             | In June,
  2007 the company sold its entire holdings in BluePhoenix, for consideration
  of approximately $64 million. The company recognized approximately $18
  million in capital gains upon completion of the sale of ordinary shares. This
  gain is presented in the income statement as income from discontinued
  operation.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        

F  29

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 2  Certain Transactions (Cont.):

|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|-- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|B. | On December
  30, 2007, the Companys subsidiary, Magic, sold its wholly-owned subsidiary,
  Advanced Answers on Demand Holding Corporation, or AAOD, a Florida
  corporation that develops and markets application software targeted at the
  long-term care industry, to Fortissimo Capital for $17 million. Fortissimo
  paid Magic $1 million of the sale price in December 2007 and the remaining
  $16 million in March 2008. As a result of this sale, the Company recorded a
  net gain of approximately $9.3 million; this gain is presented in the income
  statement as an income of discontinued operation. In addition, as part of the
  transaction, Magic entered into a three years license agreement with AAOD
  according to which AAOD will continue to sell Magics products, as an OEM
  partner, in consideration for $3 million, to be paid quarterly over three
  years starting in 2008.
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|C. | On August
  19, 2007, the Companys subsidiary, Matrix, completed an offering of
  non-convertible debentures in an aggregate principal amount of approximately
  $62 million (NIS 250 million). The debentures were sold to institutional and
  other investors in Israel. The debentures bear an interest at an annual rate
  of 5.15%. The principal will be paid in four equal annual installments on
  December 31 of each of the years 2010 through 2013. The principal and
  interest are linked to the Israeli consumer price index. On February 21,
  2008, Matrix listed the debentures for trading on the TASE.                                                                                                                                                                                                                                                                                       
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|D. | In June
  2007, the Companys subsidiary, Sapiens, entered into a private placement
  investment transaction with several institutional investors, private investors
  and Formula for an aggregate gross investment amount of $20 million
  (excluding finders fees and out of pocket expenses), $6.5 million of which
  was by Formula. Sapiens issued to the investors an aggregate of 6,666,667
  common shares (of which 2,166,666 common shares were issued to Formula), at a
  price per share of $3.00 which reflected a premium of approximately 25% above
  the trading price of Sapiens common shares (as of the date Sapiens board of
  directors approved the investment).                                                                                                                                                                                                                       

F  30

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 2  Certain Transactions (Cont.):

|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|-- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|E. | (cont.):                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|   | In December,
  2006, the Company spun-off Formula Vision. Therefore, Formula Vision is no
  longer a subsidiary of the Company. The spin-off was affected by way of
  distributing the 36,696,000 Formula Vision shares owned by Formula (then
  representing approximately 57% of the outstanding Formula Vision shares) to
  Formulas shareholders on a pro-rata basis. The Formula Vision shares were
  distributed at a ratio of 2.78 Formula Vision shares for each outstanding
  Ordinary Share held at the close of the trade on December 14, 2006, the
  record date, subject to withholding taxes.                             
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|F. | In April
  2000, FID and Israel Discount Bank Ltd. (the Investors) invested $15
  million in eZoneXchange.com, Inc. (eZone), a subsidiary of Sapiens. The
  private placement to the Investors was accompanied by a Put/Call Agreement,
  according to which the Investors were granted the right to require us to
  repurchase their shares in the subsidiary beginning May 2004 in exchange for
  both cash and Sapiens Common Shares.                                                                                                                                                                                             
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|   | In February
  2001, the management decided to discontinue the operations of eZone. During
  the same period, Sapiens agreed to a partial exercise of Investors put
  option, resulting in a payment to them of $4.5 million.                                                                                                                                                                                                                                                                                                                                                                                                            
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|   | On March 16,
  2004, Sapiens entered into a new agreement with the Investors which replaced
  the Put/Call agreement and which restructured the remaining portion of the
  put option. Sapiens agreed to issue the investors, in a private placement,
  750,000 common shares and warrants to purchase 350,000 additional common
  shares that are exercisable through December 31, 2007. In addition, Sapiens
  agreed to pay the investors in two annual installments a total of $8.6
  million plus interest at 7.5% a year by May 1, 2005. The first installment of
  $4.6 million was paid as required at the beginning of May 2004.

F  31

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 2  Certain Transactions (Cont.):

|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|-- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|F. | (cont.):                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|   | In May 2005,
 Sapiens entered into an agreement with the Investors regarding the payment of
 the remaining $4.0 million due to the investors, pursuant to the March 2004
 agreement between Sapiens and the Investors. Sapiens agreed to pay $2.0
 million on May 2, 2005, $1.0 million by April 1, 2006 and $1.0 million by
 August 1, 2006. The investors may, at their sole discretion, convert all or
 any portion of the $1.0 million payable on August 1, 2006 into Sapiens common
 shares, at a conversion price per each share of $3.20. In addition, the
 interest to be paid on the outstanding principal amount was changed to LIBOR
 plus 2.5%. The first installment of $2.0 million was paid as required at the
 beginning of May 2005.
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|   | In August 2006,
 Sapiens entered into an agreement with the Investors whereby the Investors
 converted the $1.0 million payment that was due on April 1, 2006 into 781,250
 of Sapiens common shares and the payment of the $1.0 million payment due on
 August 1, 2006 was delayed to August 1, 2007. In August 2007, Sapiens repaid the remaining outstanding
 balance of $ 1.0 million due to the investors, per the agreement described
 above.                                                                                                                                                                                                                                                                                                  
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|G. | In March 2005,
 Formula completed a private placement of 2,400,000 Formula shares for an
 aggregate consideration of $33 million. The shares were issued to FIMGold LP,
 an entity owned in equal shares by Dan Goldstein (Formulas CEO and chairman
 of the board - at that time)
 and FIMI Opportunity Fund. Concurrently with the closing of the private
 placement, Dan Goldstein sold to FIMGold LP all of his holdings in Formula
 and Formula Vision. Following these transactions, FIMGold LP held 33.3% controlling interest in
 Formula and approximately 24% interest in Formula Vision.                                                                                                                                                 

Note 3  Short-term Investments:

|   |          
|-- | ---------
|A. | Comprise:

| |                                |  |               |     |                       |  |        |  |  |        | 
| | ------------------------------ |  | ------------- | --- | --------------------- |  | ------ |  |  | ------ | 
| |                                |  | Interest rate |     |                       |  |        |  |  |       
| |                                |  |               |     | December 31,          | 
| |                                |  | December 31,  |     |                       | 
| |                                |  | 2007          |     | 2007                  |  | 2006   | 
| |                                |  |               |     |                       |  |        | 
| |                                |  | %             |     | (U.S. $ in thousands) | 
| |                                |  |               |     |                       | 
| |                                |  |               |     |                       |  |        |  |  |        | 
| | Trading
 securities            |  |               | -   |                       |  | 31,700 |  |  | 6,635  | 
| |                                |  |               |     |                       |  |        |  |  |        | 
| | Available-for-sale
 securities |  |               | -   |                       |  | 8,487  |  |  | 8,327  | 
| |                                |  |               |     |                       |  |        |  |  |        | 
| | Short-term
 deposits           |  |               | 1.2 |                       |  | 89     |  |  | 69     | 
| |                                |  |               |     |                       |  |        |  |  |        | 
| | Total                          |  |               |     |                       |  | 40,276 |  |  | 15,031 | 
| |                                |  |               |     |                       |  |        |  |  |        | 

F  32

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 3 
Short-term Investments (Cont.):

|   |                                                                                                 
|-- | ------------------------------------------------------------------------------------------------
|B. | The following is a summary of marketable securities which are classified
 as available-for-sale:

|                                                |  |                       |       |                             |  |               |   |                  |       |                    |  |               |  |  |     |   |  |       | 
|----------------------------------------------- |  | --------------------- | ----- | --------------------------- |  | ------------- | - | ---------------- | ----- | ------------------ |  | ------------- |  |  | --- | - |  | ----- | 
|                                                |  | December 31,          |      
|                                                |  |                       |      
|                                                |  | 2007                  |       | 2006                        | 
|                                                |  |                       |       |                             | 
|                                                |  | (U.S. $ in thousands) |      
|                                                |  |                       |      
|                                                |  | Amortized
 cost       |       | Unrealized
 gains
 (losses) |  | Market
 value |   | Amortized
 costs |       | Unrealized
 losses |  | Market
 value | 
|                                                |  |                       |       |                             |  |               |   |                  |       |                    |  |               | 
|Available-for-sale:                             |  |                       |       |                             |  |               |   |                  |       |                    |  |               |  |  |     |   |  |       | 
|                                                |  |                       |       |                             |  |               |   |                  |       |                    |  |               |  |  |     |   |  |       | 
|Government debentures                           |  |                       | 1,216 |                             |  | 58            |   |                  | 1,274 |                    |  | 1,641         |  |  | (15 | ) |  | 1,626 | 
|                                                |  |                       |       |                             |  |               |   |                  |       |                    |  |               |  |  |     |   |  |       | 
|Marketable
 securities *                        |  |                       | 1,545 |                             |  | -             |   |                  | 1,545 |                    |  | 3,646         |  |  | -   |   |  | 3,646 | 
|                                                |  |                       |       |                             |  |               |   |                  |       |                    |  |               |  |  |     |   |  |       | 
|Commercial debentures                           |  |                       | 5,392 |                             |  | 74            |   |                  | 5,466 |                    |  | 2,855         |  |  | (30 | ) |  | 2,825 | 
|                                                |  |                       |       |                             |  |               |   |                  |       |                    |  |               |  |  |     |   |  |       | 
|Equity funds                                    |  |                       | 249   |                             |  | (47           | ) |                  | 202   |                    |  | 249           |  |  | (19 | ) |  | 230   | 
|                                                |  |                       |       |                             |  |               |   |                  |       |                    |  |               |  |  |     |   |  |       | 
|Total available-for-sale marketable
 securities |  |                       | 8,402 |                             |  | 85            |   |                  | 8,487 |                    |  | 8,391         |  |  | (64 | ) |  | 8,327 | 
|                                                |  |                       |       |                             |  |               |   |                  |       |                    |  |               |  |  |     |   |  |       | 

| |                                                                                                                                                                                                                                                                                                                                                    
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | In 2007, the
 Company recorded proceeds from sales of marketable securities on the amount
 of $721 thousand and related losses of $17 thousand in financial income, net.                                                                                                                                                                           
| |                                                                                                                                                                                                                                                                                                                                                    
| | Since the
 Company has the ability and intent to hold these investments until a recovery
 of fair value, the Company does not consider these investments to be other
 than temporarily impaired as of December 31, 2007. In addition, these
 securities have been in a continuous unrealized losses position for a period
 not more than 12 months.
| |                                                                                                                                                                                                                                                                                                                                                    
| | * In 2007,
 the Company recorded impairment charges in the amount of $1.7 million.                                                                                                                                                                                                                                                                 
| |                                                                                                                                                                                                                                                                                                                                                    
| | The estimated fair value of available-for-sale investments as of December 31,
 2007 by contractual maturity, are as follows:                                                                                                                                                                                                                       

|                                     |  |                       |       |               |  |       |  |               |       |  |  |       | 
|------------------------------------ |  | --------------------- | ----- | ------------- |  | ----- |  | ------------- | ----- |  |  | ----- | 
|                                     |  | December 31,          |      
|                                     |  |                       |      
|                                     |  | 2007                  |       | 2006          | 
|                                     |  |                       |      
|                                     |  | (U.S. $ in Thousands) |      
|                                     |  |                       |      
|                                     |  | Cost                  |       | Market
 value |  | Cost  |  | Market
 value |      
|                                     |  |                       |       |               |  |       |  |               |      
|Available-for-sale
 debt securities: |  |                       |       |               |  |       |  |               |       |  |  |       | 
|                                     |  |                       |       |               |  |       |  |               |       |  |  |       | 
|Matures in one year                  |  |                       | 3,273 |               |  | 3,272 |  |               | 679   |  |  | 670   | 
|                                     |  |                       |       |               |  |       |  |               |       |  |  |       | 
|Matures in one to five years         |  |                       | 2,731 |               |  | 2,826 |  |               | 3,218 |  |  | 3,182 | 
|                                     |  |                       |       |               |  |       |  |               |       |  |  |       | 
|Matures in more than five years      |  |                       | 604   |               |  | 642   |  |               | 605   |  |  | 599   | 
|                                     |  |                       |       |               |  |       |  |               |       |  |  |       | 
|                                     |  |                       | 6,608 |               |  | 6,740 |  |               | 4,502 |  |  | 4,451 | 
|                                     |  |                       |       |               |  |       |  |               |       |  |  |       | 

F  33

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 4  Loans and Other Investments:

Comprise:

| |                              |  |               |       |                 |                       |          |  |              |        |  |  |       | 
| | ---------------------------- |  | ------------- | ----- | --------------- | --------------------- | -------- |  | ------------ | ------ |  |  | ----- | 
| |                              |  |               |       |                 |                       |          |  | December 31, |       
| |                              |  |               |       |                 |                       |          |  |              |       
| |                              |  | Interest rate |       | Linkage
  basis |                       | 2007     |  | 2006         |       
| |                              |  |               |       |                 |                       |          |  |             
| |                              |  | %             |       |                 | (U.S. $ in thousands) |         
| |                              |  |               |       |                 |                       |          | 
| | Cost of
  shares (1)         |  |               |       |                 |                       |          |  |              | 1,090  |  |  | 62    | 
| |                              |  |               |       |                 |                       |          |  |              |        |  |  |       | 
| | Long-term
  prepaid expenses |  |               |       |                 |                       |          |  |              | 1,612  |  |  | 208   | 
| |                              |  |               |       |                 |                       |          |  |              |        |  |  |       | 
| |                              |  |               |       |                 |                       |          |  |              |        |  |  |       | 
| | Restricted
  deposit         |  |               | 4.3-6 |                 |                       | Dollar   |  |              | 400    |  |  | 2,907 | 
| | Restricted
  deposit         |  |               | -     |                 |                       | Unlinked |  |              | 1,040  |  |  | -     | 
| | Deposit                      |  |               | 0-6   |                 |                       | Dollar   |  |              | 10,473 |  |  | 123   | 
| | Deposit                      |  |               | -     |                 |                       | CPI      |  |              | 234    |  |  | 162   | 
| | Deposit                      |  |               | 0-3   |                 |                       | Yen      |  |              | -      |  |  | 378   | 
| | Deposit                      |  |               | -     |                 |                       | Euro     |  |              | -      |  |  | 3     | 
| | Deposit                      |  |               | -     |                 |                       | GBP      |  |              | -      |  |  | 18    | 
| |                              |  |               |       |                 |                       |          |  |              |        |  |  |       | 
| |                              |  |               |       |                 |                       |          |  |              | 12,147 |  |  | 3,591 | 
| |                              |  |               |       |                 |                       |          |  |              |        |  |  |       | 
| | Total                        |  |               |       |                 |                       |          |  |              | 14,849 |  |  | 3,861 | 
| |                              |  |               |       |                 |                       |          |  |              |        |  |  |       | 

|    |                                                                                                                                                                         
|--- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | In 2007
  impairment losses on cost investments have been identified in the amount of
  $512 thousand. In 2006 no impairment losses on cost investment was
  identified.

Note 5  Investments in Affiliates:

|   |                                                       
|-- | ------------------------------------------------------
|A. | The investments are composed and presented as follows:

| |                                                                    |  |                       |       |      |  |      |  
| | ------------------------------------------------------------------ |  | --------------------- | ----- | ---- |  | ---- | -
| |                                                                    |  | December 31,          |      
| |                                                                    |  |                       |      
| |                                                                    |  | 2007                  |       | 2006 | 
| |                                                                    |  |                       |       |      | 
| |                                                                    |  | (U.S. $ in thousands) |      
| |                                                                    |  |                       |      
| | Investment in shares:                                              |  |                       |       |      |  |      |  
| |                                                                    |  |                       |       |      |  |      |  
| | Cost                                                               |  |                       | 4,369 |      |  | 557  |  
| |                                                                    |  |                       |       |      |  |      |  
| | Goodwill and
  allocated original excess cost *                    |  |                       | (265  | )    |  | (205 | )
| |                                                                    |  |                       |       |      |  |      |  
| | Net asset value as of acquisition date                             |  |                       | 4,104 |      |  | 352  |  
| |                                                                    |  |                       |       |      |  |      |  
| | Equity in
  post-acquisition undistributed retained earnings , net |  |                       | (577  | )    |  | 163  |  
| |                                                                    |  |                       |       |      |  |      |  
| | Net asset value as of the balance sheet
  date                     |  |                       | 3,527 |      |  | 515  |  
| |                                                                    |  |                       |       |      |  |      |  
| | Balance of
  goodwill                                              |  |                       | 265   |      |  | 205  |  
| |                                                                    |  |                       |       |      |  |      |  
| | Total                                                              |  |                       | 3,792 |      |  | 720  |  
| |                                                                    |  |                       |       |      |  |      |  

|  |                                                                                                                                                                                                     
|- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|* | Beginning on
  January 1, 2002, the investment is being tested for impairment on an annual
  basis rather than amortizing the goodwill as required by previous accounting
  standards (see Note 1J).

F  34

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 5  Investments in Affiliates (Cont.):

|   |                                                                                                                     
|-- | --------------------------------------------------------------------------------------------------------------------
|B. | Following are details relating to the financial position and results
  of operations of affiliates in the aggregate:

| |                     |  |                       |        |      |  |       | 
| | ------------------- |  | --------------------- | ------ | ---- |  | ----- | 
| |                     |  | December 31,          |       
| |                     |  |                       |       
| |                     |  | 2007                  |        | 2006 | 
| |                     |  |                       |        |      | 
| |                     |  | (U.S. $ in thousands) |       
| |                     |  |                       |       
| |                     |  |                       |        |      |  |       | 
| | Total assets        |  |                       | 16,556 |      |  | 6,592 | 
| |                     |  |                       |        |      |  |       | 
| | Total
  liabilities |  |                       | 6,487  |      |  | 346   | 
| |                     |  |                       |        |      |  |       | 
| | Net (loss)
  income |  |                       | (2,037 | )    |  | 64    | 
| |                     |  |                       |        |      |  |       | 

Note 6  Property and Equipment, net:

Comprise:

|                            |  |                       |        |      |  |        | 
|--------------------------- |  | --------------------- | ------ | ---- |  | ------ | 
|                            |  | December 31,          |       
|                            |  |                       |       
|                            |  | 2007                  |        | 2006 | 
|                            |  |                       |        |      | 
|                            |  | (U.S. $ in thousands) |       
|                            |  |                       |       
|Cost:                       |  |                       |        |      |  |        | 
|Computers and equipment     |  |                       | 52,603 |      |  | 50,721 | 
|Motor vehicles              |  |                       | 1,015  |      |  | 1,052  | 
|Buildings                   |  |                       | 10,597 |      |  | 10,034 | 
|Leasehold improvements      |  |                       | 8,196  |      |  | 7,025  | 
|                            |  |                       |        |      |  |        | 
|                            |  |                       | 72,411 |      |  | 68,832 | 
|                            |  |                       |        |      |  |        | 
|Accumulated
  Depreciation: |  |                       |        |      |  |        | 
|Computers and equipment     |  |                       | 45,294 |      |  | 43,828 | 
|Motor vehicles              |  |                       | 705    |      |  | 655    | 
|Buildings                   |  |                       | 4,822  |      |  | 3,914  | 
|Leasehold improvements      |  |                       | 5,796  |      |  | 4,514  | 
|                            |  |                       |        |      |  |        | 
|                            |  |                       | 56,617 |      |  | 52,911 | 
|                            |  |                       |        |      |  |        | 
|Depreciated
  balance       |  |                       | 15,794 |      |  | 15,921 | 
|                            |  |                       |        |      |  |        | 

Depreciation
expenses totaled $4.3 million, $4.7 million and $4.9 million for the years
ended December 31, 2007, 2006 and 2005, respectively.

See Note 12B with respect
to pledges.

F  35

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 7  Goodwill:

The changes in
the carrying amount of goodwill for the year ended December 31, 2007 and 2006 are as
follows:

|                                                      |  |                       |         |  
|----------------------------------------------------- |  | --------------------- | ------- | -
|                                                      |  | U.S. $ in
  thousands |        
|                                                      |  |                       |        
|Balance as of January 1,2006                          |  |                       | 95,858  |  
|                                                      |  |                       |         |  
|Acquisition of additional interest in
  subsidiaries  |  |                       | 1,406   |  
|                                                      |  |                       |         |  
|Realization and decrease in shareholding
  percentage |  |                       | (638    | )
|                                                      |  |                       |         |  
|Acquisition of newly-consolidated
  subsidiaries      |  |                       | 3,364   |  
|Foreign currency translation adjustments              |  |                       | 4,283   |  
|Balance as of December 31, 2006                       |  |                       | 104,273 |  
|Acquisition of additional interest in subsidiaries    |  |                       | 4,206   |  
|Realization and decrease in shareholding
  percentage |  |                       | (5,925  | )
|Acquisition of newly-consolidated
  subsidiaries      |  |                       | 10,281  |  
|Foreign currency translation adjustments              |  |                       | 6,179   |  
|                                                      |  |                       |         |  
|Balance as of December 31, 2007                       |  |                       | 119,014 |  
|                                                      |  |                       |         |  

Note 8  Other Assets, Net:

Comprised as follows:

|   |                                          |  |                       |         |      |  |         | 
|-- | ---------------------------------------- |  | --------------------- | ------- | ---- |  | ------- | 
|   |                                          |  | December 31,          |        
|   |                                          |  |                       |        
|   |                                          |  | 2007                  |         | 2006 | 
|   |                                          |  |                       |         |      | 
|   |                                          |  | (U.S. $ in thousands) |        
|   |                                          |  |                       |        
|A. | Original amounts:                        |  |                       |         |      |  |         | 
|   |                                          |  |                       |         |      |  |         | 
|   | Capitalized
  software development costs |  |                       | 101,604 |      |  | 89,780  | 
|   | Deferred
  expenses and others           |  |                       | 15,793  |      |  | 14,032  | 
|   | Deferred tax
  asset                     |  |                       | 11,437  |      |  | 7,047   | 
|   |                                          |  |                       |         |      |  |         | 
|   |                                          |  |                       | 128,834 |      |  | 110,859 | 
|   |                                          |  |                       |         |      |  |         | 
|   | Accumulated amortization:                |  |                       |         |      |  |         | 
|   | Capitalized software development costs   |  |                       | 74,461  |      |  | 64,831  | 
|   | Deferred expenses and others             |  |                       | 11,327  |      |  | 8,078   | 
|   |                                          |  |                       |         |      |  |         | 
|   |                                          |  |                       | 85,788  |      |  | 72,909  | 
|   |                                          |  |                       |         |      |  |         | 
|   | Total                                    |  |                       | 43,046  |      |  | 37,950  | 
|   |                                          |  |                       |         |      |  |         | 

|   |                                                                                                                                             
|-- | --------------------------------------------------------------------------------------------------------------------------------------------
|B. | Amortized
  expenses totaled $7.7 million, $9.9 million and $9 million for the years
  ended December 31, 2007, 2006 and 2005, respectively.
|   |                                                                                                                                             
|   | As for
  impairments of software development cost, see Note 1K.                                                                             

F  36

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 8  Other Assets, Net (Cont.):

|   |                                                                                              
|-- | ---------------------------------------------------------------------------------------------
|C. | Estimated
  deferred expenses and other intangible assets amortization for the years
  ended:

| |                       |  |  |                         |  | 
| | --------------------- |  |  | ----------------------- |  | 
| | December
  31,        |  |  | (U.S. $ in
  thousands) | 
| |                       |  |  |                         | 
| |                       |  |  |                         |  | 
| | 2008                  |  |  | 1,310                   | 
| | 2009                  |  |  | 901                     | 
| | 2010                  |  |  | 403                     | 
| | 2011                  |  |  | 403                     | 
| | 2012 and
  thereafter |  |  | 1,449                   | 
| |                       |  |  |                         | 

Note 9  Liabilities to Banks and Others:

|   |             
|-- | ------------
|A. | Composition:

|      |  |                     |         |                 |  |                         |  |                       |        |                                                           |  |                                                           |  |  |        |  |  |  |        |  | 
|----- |  | ------------------- | ------- | --------------- |  | ----------------------- |  | --------------------- | ------ | --------------------------------------------------------- |  | --------------------------------------------------------- |  |  | ------ |  |  |  | ------ |  | 
|      |  | December
  31, 2007 |         | Linkage
  basis |  | Long-term
  liabilities |  | Current
  maturities  |        | Total long-term
  liabilities net of
  current maturities |  | Total long-term
  liabilities net of
  current maturities | 
|      |  |                     |         |                 |  |                         |  |                       |        |                                                           |  |                                                           | 
|      |  | Interest
  rate     |         |                 |  | December 31, 2007       |  | December 31, 2006     |       
|      |  |                     |         |                 |  |                         |  |                       |       
|      |  | %                   |         |                 |  | (U.S. $ in thousands)   |  | (U.S. $ in thousands) |       
|      |  |                     |         |                 |  |                         |  |                       |       
|      |  |                     | 6.1-6.6 |                 |  | Dollar                  |  |                       | 56     |                                                           |  | -                                                         |  |  | 56     |  |  |  | 95     |  | 
|      |  |                     | 4.3-5   |                 |  | CPI                     |  |                       | 552    |                                                           |  | 552                                                       |  |  | -      |  |  |  | 492    |  | 
|      |  |                     | 5.5     |                 |  | NIS                     |  |                       | 31,866 |                                                           |  | 9,118                                                     |  |  | 22,748 |  |  |  | 58,106 |  | 
|      |  |                     | 2.2-5.7 |                 |  | Other                   |  |                       | 1,361  |                                                           |  | 1,044                                                     |  |  | 317    |  |  |  | 575    |  | 
|      |  |                     | -       |                 |  | Unlinked                |  |                       | 564    |                                                           |  | -                                                         |  |  | 564    |  |  |  | -      |  | 
|      |  |                     |         |                 |  |                         |  |                       |        |                                                           |  |                                                           |  |  |        |  |  |  |        |  | 
|Total |  |                     |         |                 |  |                         |  |                       | 34,399 |                                                           |  | 10,714                                                    |  |  | 23,685 |  |  |  | 59,268 |  | 
|      |  |                     |         |                 |  |                         |  |                       |        |                                                           |  |                                                           |  |  |        |  |  |  |        |  | 

|   |                
|-- | ---------------
|B. | Maturity Dates:

| |                                   |              |                       |        |  |  |       
| | --------------------------------- | ------------ | --------------------- | ------ |  |  | ------
|
| |                                   | December 31, |                      
| |                                   |              |                      
| |                                   | 2007         |                       | 2006   | 
| |                                   |              |                       |        | 
| |                                   |              | (U.S. $ in thousands) |       
| |                                   |              |                       |       
| | First year
  (current maturities) |              |                       | 10,714 |  |  | 17,684
| | Second year                       |              |                       | 7,653  |  |  | 15,410
| | Third year                        |              |                       | 6,642  |  |  | 19,330
| | Fourth year                       |              |                       | 6,250  |  |  | 24,401
| | Fifth year                        |              |                       | 3,140  |  |  | 127   
| |                                   |              |                       |        |  |  |       
| | Total                             |              |                       | 34,399 |  |  | 76,952
| |                                   |              |                       |        |  |  |       

|   |                                                                      
|-- | ---------------------------------------------------------------------
|C. | For details
  of liens, guarantees and credit facilities see Note 12.

F  37

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 10  Debentures:

Comprised as follows:

|                                                                   |  |         |        |                 |                       |              |   |      |        |   |  |        |  
|------------------------------------------------------------------ |  | ------- | ------ | --------------- | --------------------- | ------------ | - | ---- | ------ | - |  | ------ | -
|                                                                   |  |         |        |                 |                       | December 31, |  
|                                                                   |  |         |        |                 |                       |              |  
|                                                                   |  |         |        |                 |                       | 2007         |   | 2006 |       
|                                                                   |  |         |        | Interest
  rate |                       |              |   |      |       
|                                                                   |  | Linkage |        |                 | (U.S. $ in thousands) |             
|                                                                   |  |         |        |                 |                       |              |  
|                                                                   |  |         |        |                 |                       |              |   |      |        |   |  |        |  
|Debentures                                                         |  |         | CPI    |                 |                       | 5.2          | % |      | 65,452 |   |  | -      |  
|                                                                   |  |         |        |                 |                       |              |   |      |        |   |  |        |  
|Convertible debenture:                                             |  |         |        |                 |                       |              |   |      |        |   |  |        |  
|Par value                                                          |  |         | Dollar |                 |                       | 6.0          | % |      | 11,497 |   |  | 19,508 |  
|Embedded derivatives, net *)                                       |  |         |        |                 |                       |              |   |      | 1,366  |   |  | 1,135  |  
|                                                                   |  |         |        |                 |                       |              |   |      | (966   | ) |  | (**    | )
|                                                                   |  |         |        |                 |                       |              |   |      |        |   |  |        |  
|Deemed discount, net *)                                            |  |         |        |                 |                       |              |   |      |        |   |  | (1,947 | )
|                                                                   |  |         |        |                 |                       |              |   |      |        |   |  |        |  
|                                                                   |  |         |        |                 |                       |              |   |      | 77,349 |   |  | 18,696 |  
|                                                                   |  |         |        |                 |                       |              |   |      |        |   |  |        |  
|Less - debentures purchased by one of the
  Companys subsidiaries |  |         |        |                 |                       |              |   |      | (1,945 | ) |  | (2,521 | )
|                                                                   |  |         |        |                 |                       |              |   |      |        |   |  |        |  
|Warrants (Series 1)                                                |  |         |        |                 |                       |              |   |      | -      |   |  | 71     |  
|                                                                   |  |         |        |                 |                       |              |   |      |        |   |  |        |  
|Less - current maturities of debentures                            |  |         |        |                 |                       |              |   |      | (3,524 | ) |  | (4,450 | )
|                                                                   |  |         |        |                 |                       |              |   |      |        |   |  |        |  
|                                                                   |  |         |        |                 |                       |              |   |      | 71,880 |   |  | 11,796 |  
|                                                                   |  |         |        |                 |                       |              |   |      |        |   |  |        |  

|    |                                                                                                                                                                                     
|--- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|*)  | Amortization
  of the deemed discount and the changes in the fair value of embedded
  derivatives charged to expenses were $911 and $254 thousand for 2007 and
  2006, respectively.
|    |                                                                                                                                                                                     
|**) | The amounts
  were reclassified to conform the current year presentation.                                                                                                           

The Companys
subsidiary Sapiens convertible debentures, warrants and options are traded
only in the TASE. Any Common shares issued upon conversion of the Debentures
(Series A) or exercise of the Warrants (Series 1) will be traded on both TASE
and NASDAQ. The offering was made to the public in Israel only in accordance
with Israeli securities laws. It was not open to persons residing in the United
States or to other U.S. persons (other than distributors). The securities
offered have not been registered under the Securities Act of 1933, as amended,
and may not be offered or sold in the United States absent registration under
such Act or an applicable exemption from registration.

Pursuant to an
evaluation of the terms of the agreement under the provisions of EITF 00-19,
Accounting for Derivative Financial Instruments Indexed to, and Potentially
Settled In a Companys Own Stock (EITF 00-19), Sapiens has classified all
the above derivative financial instruments issued in connection with issuance
of the convertible debentures, Warrants and Options as liabilities.

F  38

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 10    Debentures (cont.):

The conversion
features and the floor rate to the dollar payments were evaluated under FAS
133, Accounting for Derivative Instruments and Hedging Activities (FAS
133), and EITF 00-19, and were determined under EITF 00-19 to have
characteristics of liabilities and therefore derivative liabilities under FAS
133. Each reporting period these derivatives liabilities are marked to market
with the non cash gain or loss recorded in the period. On December 31, 2007,
the aggregate derivatives liabilities were $1,143. The valuation of the
embedded derivatives is determined by the Black and Scholes model and the
Lattice model.

Amounts allocated
to the Options (Series A) and the Warrants (Series 1) are accounted for as
liabilities, in accordance with EITF 00-19, and are marked to market, based on
their fair values in the TASE at each reporting date, against financial income
(expense).

In August,
2006 Sapiens modified the terms of the first payment of the Debentures (Series
A) that was due in December, 2006 as follows: (a) 50% of the first payment
amount, approximately $2.4 million, will be deferred to December 5, 2009 (the
last day of payment of the principal on the debentures), and (b) with respect
to other 50% of the first payment amount, Sapiens can choose from the following
alternatives, in its sole discretion: (1) to convert such amount on December 5,
2006 into Sapienss Common shares, at a conversion price per share of $1.28,
which reflects the average closing price for the 10 day period prior to July
17, 2006, or (2) to pay the approximately $2.4 million amount to the debenture
holders.

On December 5,
2006, an amount of approximately $2.4 million was paid to the debenture
holders.

The
modification of the terms of the first payment of the Debentures (Series A) was
accounted for in accordance with FAS 15 Accounting by Debtors and Creditors
for Troubled Debt Restructurings. Accordingly, Sapiens calculated the new
effective borrowing rate of the debt, which affected the amortization rate of
the unamortized discount and unamortized issuance expenses as of the date of
the restructuring.

In June 2007,
Sapiens re-purchased an aggregate amount of NIS 15 millions nominal value,
representing approximately $3.5 million of the outstanding debentures that were
retired and removed from circulation on the TASE.

On December 5,
2007, an amount of approximately $4.4 million was paid to the debenture
holders, representing the second payment of the Debentures (Series A).

F  39

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 11    Employee Option Plans in
Subsidiaries:

|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|-- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|A. | Certain
  public subsidiaries granted options to their employees to purchase shares in
  the respective companies.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|   | The options were mainly granted during the years
  1999-2007. In general, the options are exercisable 2-3 years after the date
  of grant and expire 7-10 years after grant. Most of the options were granted
  as part of plans that were adopted in accordance with the provisions of
  Section 102 of the Israeli Income Tax Ordinance, which stipulate, inter alia,
  that the subsidiaries will be able to claim the benefit that was charged to
  the employees as an expense for tax purposes, if and when the employees
  become liable for tax on the benefit mentioned above. For further information
  with respect to expenses relating to the benefit to the employees, and
  additional disclosure required by FAS 123R, see Note 1X.
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|B. | The
  following table is a summary of the status of option plans in Magic as of
  December 31, 2007, 2006 and 2005:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                

| |                                                                  |  |                                |           |                                       |   |                                |  |                                       |           |                     |  |                                       |  |  |           |   |  |      | 
| | ---------------------------------------------------------------- |  | ------------------------------ | --------- | ------------------------------------- | - | ------------------------------ |  | ------------------------------------- | --------- | ------------------- |  | ------------------------------------- |  |  | --------- | - |  | ---- | 
| |                                                                  |  | Year ended
  December 31, 2007 |           | Year ended
  December 31, 2006        |   | Year ended
  December 31, 2005 | 
| |                                                                  |  |                                |           |                                       |   |                                | 
| |                                                                  |  | Number of
  Options            |           | Weighted
  Average
  Exercise
  Price |   | Number of
  Options            |  | Weighted
  Average
  Exercise
  Price |           | Number of
  Options |  | Weighted
  Average
  Exercise
  Price | 
| |                                                                  |  |                                |           |                                       |   |                                |  |                                       |           |                     |  |                                       | 
| |                                                                  |  |                                |           |                                       | $ |                                |  |                                       |           | $                   |  |                                       |  |  | $         |  
| |                                                                  |  |                                |           |                                       |   |                                |  |                                       |           |                     |  |                                       |  |  |           |  
| | Options outstanding at the beginning of the year                 |  |                                | 2,352,632 |                                       |   | 2.52                           |  |                                       | 3,061,216 |                     |  | 2.62                                  |  |  | 2,513,237 |   |  | 2.95 | 
| | Granted                                                          |  |                                | 1,773,332 |                                       |   | 1.78                           |  |                                       | 62,000    |                     |  | 1.69                                  |  |  | 820,028   |   |  | 1.70 | 
| | Exercised                                                        |  |                                | (218,205  | )                                     |   | 1.18                           |  |                                       | (253,346  | )                   |  | 1.11                                  |  |  | (80,604   | ) |  | 1.04 | 
| | Forfeited                                                        |  |                                | (234,231  | )                                     |   | 2.98                           |  |                                       | (517,238  | )                   |  | 3.41                                  |  |  | (191,445  | ) |  | 3.54 | 
| |                                                                  |  |                                |           |                                       |   |                                |  |                                       |           |                     |  |                                       |  |  |           |   |  |      | 
| | Outstanding at the end of the year                               |  |                                | 3,673,528 |                                       |   | 2.22                           |  |                                       | 2,352,632 |                     |  | 2.52                                  |  |  | 3,061,216 |   |  | 2.62 | 
| |                                                                  |  |                                |           |                                       |   |                                |  |                                       |           |                     |  |                                       |  |  |           |   |  |      | 
| | Exercisable at the end of the year                               |  |                                | 2,407,532 |                                       |   | 2.22                           |  |                                       | 2,290,032 |                     |  | 2.54                                  |  |  | 3,061,216 |   |  | 2.62 | 
| |                                                                  |  |                                |           |                                       |   |                                |  |                                       |           |                     |  |                                       |  |  |           |   |  |      | 
| | Weighted average fair value of options granted during the year
* |  |                                |           |                                       |   | 1.31                           |  |                                       |           |                     |  | 1.7                                   |  |  |           |   |  | 1.1  | 
| |                                                                  |  |                                |           |                                       |   |                                |  |                                       |           |                     |  |                                       |  |  |           |   |  |      | 

| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | * | The fair
  value of each option granted is estimated on the date of grant, using the
  binomial model for the year 2007 and the Black-Scholes Option Valuation Model
  for the years 2005-2006 with the following weighted-average assumptions for
  each of the three years in the period ended December 31, 2007, 2006 and 2005:
  expected volatility of 51-73%, 64%, and 80%, respectively; risk-free interest
  rates of 3.46%-5.05%, 4.7% and 3.9% respectively; dividend yields of 0% for
  each year, and a weighted average expected life of the option of 2.48-3 years,
  5 years and 5 years, respectively.

F  40

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 11  Employee Option Plans in
Subsidiaries (cont.):

|   |                                                                                                                               
|-- | ------------------------------------------------------------------------------------------------------------------------------
|B. | (cont.):                                                                                                                      
|  
|   | The options
  outstanding as of December 31, 2007, have been separated into ranges of
  exercise price categories, as follows:

| |                              |  |                                               |                     |                                                 |                     |                                   |   |                                               |  |                                     |  |   |  |           |  |  |       |  | 
| | ---------------------------- |  | --------------------------------------------- | ------------------- | ----------------------------------------------- | ------------------- | --------------------------------- | - | --------------------------------------------- |  | ----------------------------------- |  | - |  | --------- |  |  | ----- |  | 
| |                              |  |                                               | Options Outstanding |                                                 | Options Exercisable |                                  
| |                              |  |                                               |                     |                                                 |                     |                                  
| | Range of
  Exercise
  Prices |  | Number
  Outstanding
  at December
  31, 2007 |                     | Weighted Average
  Remaining
  Contractual Life |                     | Weighted Average
  Exercise Price |   | Number
  Exercisable at
  December 31,
  2007 |  | Weighted
  Average
  Exercise Price | 
| |                              |  |                                               |                     |                                                 |                     |                                   |   |                                               |  |                                     | 
| | $                            |  |                                               |                     |                                                 | Years               |                                   | $ |                                               |  |                                     |  | $ | 
| |                              |  |                                               |                     |                                                 |                     |                                   |   |                                               |  |                                     |  |   | 
| | 0-1                          |  |                                               |                     | 494,887                                         |                     |                                   | 8 |                                               |  | 0.25                                |  |   |  | 494,887   |  |  | 0.25  |  | 
| | 1-2                          |  |                                               |                     | 1,542,956                                       |                     |                                   | 7 |                                               |  | 1.56                                |  |   |  | 1,034,956 |  |  | 1.36  |  | 
| | 2-3                          |  |                                               |                     | 878,000                                         |                     |                                   | 9 |                                               |  | 2.37                                |  |   |  | 120,004   |  |  | 2.37  |  | 
| | 3-4                          |  |                                               |                     | 402,470                                         |                     |                                   | 6 |                                               |  | 3.8                                 |  |   |  | 402,470   |  |  | 3.81  |  | 
| | 4-5                          |  |                                               |                     | 193,004                                         |                     |                                   | 6 |                                               |  | 4.12                                |  |   |  | 193,004   |  |  | 4.12  |  | 
| | 5-6                          |  |                                               |                     | 128,000                                         |                     |                                   | 6 |                                               |  | 5.95                                |  |   |  | 128,000   |  |  | 5.95  |  | 
| | 6-7                          |  |                                               |                     | 711                                             |                     |                                   | 2 |                                               |  | 6.14                                |  |   |  | 711       |  |  | 6.14  |  | 
| | 10-11                        |  |                                               |                     | 24,500                                          |                     |                                   | 2 |                                               |  | 10.16                               |  |   |  | 24,500    |  |  | 10.16 |  | 
| | 18-19                        |  |                                               |                     | 9,000                                           |                     |                                   | 2 |                                               |  | 18.79                               |  |   |  | 9,000     |  |  | 18.79 |  | 
| |                              |  |                                               |                     |                                                 |                     |                                   |   |                                               |  |                                     |  |   |  |           |  |  |       |  | 
| |                              |  |                                               |                     | 3,673,528                                       |                     |                                   |   |                                               |  |                                     |  |   |  | 2,407,532 |  |  |       |  | 
| |                              |  |                                               |                     |                                                 |                     |                                   |   |                                               |  |                                     |  |   |  |           |  |  |       |  | 

|   |                                                                                                                                                 
|-- | ------------------------------------------------------------------------------------------------------------------------------------------------
|C. | The
  following is a summary of the status of option plans in Matrix as of December
  31, 2007 and 2006 and changes during the years then ended:

| |                                                                  |  |                                |            |                                       |   |                                |  |                                       |            |                     |  |                                       |  |  |            |   |  |       | 
| | ---------------------------------------------------------------- |  | ------------------------------ | ---------- | ------------------------------------- | - | ------------------------------ |  | ------------------------------------- | ---------- | ------------------- |  | ------------------------------------- |  |  | ---------- | - |  | ----- | 
| |                                                                  |  | Year ended
  December 31, 2007 |            | Year ended
  December 31, 2006        |   | Year ended
  December 31, 2005 | 
| |                                                                  |  |                                |            |                                       |   |                                | 
| |                                                                  |  | Number of
  Options            |            | Weighted
  Average
  Exercise
  Price |   | Number of
  Options            |  | Weighted
  Average
  Exercise
  Price |            | Number of
  Options |  | Weighted
  Average
  Exercise
  Price | 
| |                                                                  |  |                                |            |                                       |   |                                |  |                                       |            |                     |  |                                       | 
| |                                                                  |  |                                |            |                                       | $ |                                |  |                                       |            | $                   |  |                                       |  |  | $          |  
| |                                                                  |  |                                |            |                                       |   |                                |  |                                       |            |                     |  |                                       |  |  |            |  
| | Options outstanding at the beginning of the year                 |  |                                | 2,949,291  |                                       |   | 1.625                          |  |                                       | 5,203,659  |                     |  | 1.588                                 |  |  | 6,031,380  |   |  | 1.8   | 
| | Granted                                                          |  |                                | 2,050,000  |                                       |   | 3.437                          |  |                                       | -          |                     |  | -                                     |  |  | 530,800    |   |  | 1.710 | 
| | Exercised                                                        |  |                                | (1,995,730 | )                                     |   | 1.68                           |  |                                       | (2,219,136 | )                   |  | 1.54                                  |  |  | (1,329,302 | ) |  | 1.434 | 
| | Forfeited                                                        |  |                                | (35,580    | )                                     |   | 1.564                          |  |                                       | (35,232    | )                   |  | 1.524                                 |  |  | (29,219    | ) |  | 1.410 | 
| |                                                                  |  |                                |            |                                       |   |                                |  |                                       |            |                     |  |                                       |  |  |            |   |  |       | 
| | Outstanding at the end of the year                               |  |                                | 2,967,981  |                                       |   | 3.08                           |  |                                       | 2,949,291  |                     |  | 1.625                                 |  |  | 5,203,659  |   |  | 1.588 | 
| |                                                                  |  |                                |            |                                       |   |                                |  |                                       |            |                     |  |                                       |  |  |            |   |  |       | 
| | Exercisable at the end of the year                               |  |                                | 1,217,981  |                                       |   | 1.72                           |  |                                       | 2,949,291  |                     |  | 1.625                                 |  |  | 5,180,707  |   |  | 1.588 | 
| |                                                                  |  |                                |            |                                       |   |                                |  |                                       |            |                     |  |                                       |  |  |            |   |  |       | 
| | Weighted average fair value of options granted during the year
* |  |                                |            |                                       |   | 1.3                            |  |                                       |            |                     |  | -                                     |  |  |            |   |  | -     | 
| |                                                                  |  |                                |            |                                       |   |                                |  |                                       |            |                     |  |                                       |  |  |            |   |  |       | 

| |   |                                                                                                                                                                                                                                                                                                                       
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | * | The fair
  value of options granted in 2007 is estimated on the date of grant using the
  Black-Scholes option-pricing model, with the following weighted average
  assumptions used for grants: expected volatility: 24% - 25%; risk-free
  interest rate (in NIS terms) of 5.3%-5.5% and expected life: 3-3.5 years.

F  41

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 11  Employee Option Plans in
Subsidiaries (cont.):

|   |                                                                                                           | 
|-- | --------------------------------------------------------------------------------------------------------- | 
|C. | (cont.):                                                                                                 
|   |                                                                                                          
|   | The
  following table summarizes information in respect of options outstanding as
  of December 31, 2007:

| |                              |  |                                               |           |                                                   |       |                                     |   |                                                 |       |                                     |  |           |  |  |       | 
| | ---------------------------- |  | --------------------------------------------- | --------- | ------------------------------------------------- | ----- | ----------------------------------- | - | ----------------------------------------------- | ----- | ----------------------------------- |  | --------- |  |  | ----- | 
| |                              |  | Options Outstanding                           |           | Options Exercisable                               |      
| |                              |  |                                               |           |                                                   |      
| | Range of
  Exercise
  Prices |  | Number
  Outstanding
  at December
  31, 2007 |           | Weighted
  Average
  Remaining
  Contractual Life |       | Weighted
  Average
  Exercise Price |   | Number
  Exercisable
  at
  December
  31, 2007 |       | Weighted
  Average
  Exercise Price | 
| |                              |  |                                               |           |                                                   |       |                                     |   |                                                 |       |                                     | 
| | $                            |  |                                               |           |                                                   | Years |                                     | $ |                                                 |       |                                     |  | $         | 
| |                              |  |                                               |           |                                                   |       |                                     |   |                                                 |       |                                     |  |           | 
|
| | 1.584                        |  |                                               | 479,141   |                                                   |       | 2.55                                |   |                                                 | 1.584 |                                     |  | 479,141   |  |  | 1.584 | 
| | 1.811                        |  |                                               | 738,840   |                                                   |       | 3.34                                |   |                                                 | 1.811 |                                     |  | 738,840   |  |  | 1.811 | 
| | 4.027                        |  |                                               | 1,750,000 |                                                   |       | 4                                   |   |                                                 | 4.027 |                                     |  | -         |  |  | -     | 
| |                              |  |                                               |           |                                                   |       |                                     |   |                                                 |       |                                     |  |           |  |  |       | 
| |                              |  |                                               | 2,967,981 |                                                   |       |                                     |   |                                                 |       |                                     |  | 1,217,981 |  |  |       | 
| |                              |  |                                               |           |                                                   |       |                                     |   |                                                 |       |                                     |  |           |  |  |       | 

F  42

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 11  Employee Option Plans in
Subsidiaries (cont.):

|   |                                                                                                                                                           
|-- | ----------------------------------------------------------------------------------------------------------------------------------------------------------
|D. | The
  following is a summary of the status of options plans in Sapiens as of
  December 31, 2007,
  2006 and 2005 and changes during the years then ended:

|                                                                |  |                                |             |                                       |  |                                |  |                                       |                |                  |  |                                       |  |  |                |   |  |      | 
|--------------------------------------------------------------- |  | ------------------------------ | ----------- | ------------------------------------- |  | ------------------------------ |  | ------------------------------------- | -------------- | ---------------- |  | ------------------------------------- |  |  | -------------- | - |  | ---- | 
|                                                                |  | Year ended
  December 31, 2007 |             | Year ended
  December 31, 2006        |  | Year ended
  December 31, 2005 | 
|                                                                |  |                                |             |                                       |  |                                | 
|                                                                |  | Number ofoptions               |             | Weighted
  Average
  Exercise
  Price |  | Number ofoptions               |  | Weighted
  Average
  Exercise
  Price |                | Number ofoptions |  | Weighted
  Average
  Exercise
  Price | 
|                                                                |  |                                |             |                                       |  |                                |  |                                       |                |                  |  |                                       | 
|                                                                |  |                                |             | $                                     |  |                                |  | $                                     |                |                  |  | $                                     | 
|                                                                |  |                                |             |                                       |  |                                |  |                                       |                |                  |  |                                       | 
|Options outstanding at the beginning of the year                |  |                                | **2,441,050 |                                       |  | 4.68                           |  |                                       | **
  2,812,212 |                  |  | 5.54                                  |  |  | **
  1,640,871 |   |  | 9.05 | 
|Changes during the year:                                        |  |                                |             |                                       |  |                                |  |                                       |                |                  |  |                                       |  |  |                |   |  |      | 
|Granted                                                         |  |                                | 691,000     |                                       |  | 2.39                           |  |                                       | 20,000         |                  |  | 1.33                                  |  |  | 1,608,200      |   |  | 2.61 | 
|Exercised                                                       |  |                                | (29,569     | )                                     |  | 2.35                           |  |                                       | -              |                  |  | -                                     |  |  | (19,500        | ) |  | -    | 
|Forfeited                                                       |  |                                | (276,581    | )                                     |  | 5.53                           |  |                                       | (391,162       | )                |  | 10.76                                 |  |  | (417,359       | ) |  | 8.31 | 
|                                                                |  |                                |             |                                       |  |                                |  |                                       |                |                  |  |                                       |  |  |                |   |  |      | 
|Options outstanding at the end of the
year                      |  |                                | **2,825,900 |                                       |  | 4.01                           |  |                                       | **
  2,441,050 |                  |  | 4.68                                  |  |  | **2,812,212    |   |  | 5.54 | 
|                                                                |  |                                |             |                                       |  |                                |  |                                       |                |                  |  |                                       |  |  |                |   |  |      | 
|Options exercisable at year-end                                 |  |                                | 2,130,900   |                                       |  | 4.58                           |  |                                       | 2,437,050      |                  |  | 4.7                                   |  |  | 2,812,212      |   |  | 5.54 | 
|                                                                |  |                                |             |                                       |  |                                |  |                                       |                |                  |  |                                       |  |  |                |   |  |      | 
|Weighted-average fair value of options granted during the
year* |  |                                |             |                                       |  | 4.63                           |  |                                       |                |                  |  | 0.68                                  |  |  |                |   |  | 1.32 | 
|                                                                |  |                                |             |                                       |  |                                |  |                                       |                |                  |  |                                       |  |  |                |   |  |      | 

|   |                                                                                                                                                                                                                                                                                                                                                                                                                         
|-- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|*  | The fair
  value of each option granted is estimated on the date of grant, using the
  Black-Scholes option-pricing model with the following weighted average
  assumption: Dividend yield of 0% for all years; expected volatility: 2007 -
  89%, 2006 - 67%, 2005 - 83%, risk-free interest rate 2007 - 4.2%, 2006 - 6%,
  2005 - 4.4% and expected life: 2007 - 6.25% years, 2006 - 6.25 year and 2005
  - 6.9 years.
|   |                                                                                                                                                                                                                                                                                                                                                                                                                         
|** | Including
  14,000, 59,000 and 62,300 options which were reprised to zero in 2005, as of
  December 2007, 2006 and 2005, respectively.                                                                                                                                                                                                                                                                                  

F  43

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 11  Employee Option Plans in
Subsidiaries (cont.):

|   |                                                                                                          
|-- | ---------------------------------------------------------------------------------------------------------
|E. | The
  following table summarizes information in respect of options outstanding as
  of December 31, 2007:

|                          |  |                                                 |           |                                                     |       |                                     |      |                                               |  |                                     |  |       |  |  |  |           |  |  |  |       |  | 
|------------------------- |  | ----------------------------------------------- | --------- | --------------------------------------------------- | ----- | ----------------------------------- | ---- | --------------------------------------------- |  | ----------------------------------- |  | ----- |  |  |  | --------- |  |  |  | ----- |  | 
|                          |  | Options Outstanding                             |           | Options Exercisable                                 |      
|                          |  |                                                 |           |                                                     |      
|Range of Exercise
  Price |  | Number
  Outstanding
  at
  December 31,
  2007 |           | Weighted
  Average
  Remaining
  Contractual
  Life |       | Weighted
  Average
  Exercise Price |      | Number
  Exercisable at
  December 31,
  2007 |  | Weighted
  Average
  Exercise Price | 
|                          |  |                                                 |           |                                                     |       |                                     |      |                                               |  |                                     | 
|$                         |  |                                                 |           |                                                     | Years |                                     | $    |                                               |  |                                     |  | $     | 
|                          |  |                                                 |           |                                                     |       |                                     |      |                                               |  |                                     |  |       | 
|                          |  |                                                 |           |                                                     |       |                                     |      |                                               |  |                                     |  |       |  |  |  |           |  |  |  |       |  | 
|0                         |  |                                                 | 14,000    |                                                     |       |                                     | 0.83 |                                               |  |                                     |  | 0     |  |  |  | 14,000    |  |  |  | 0     |  | 
|1.14-1.86                 |  |                                                 | 458,000   |                                                     |       |                                     | 7.22 |                                               |  |                                     |  | 1.65  |  |  |  | 325,000   |  |  |  | 1.74  |  | 
|2.00-2.63                 |  |                                                 | 540,450   |                                                     |       |                                     | 8.05 |                                               |  |                                     |  | 2.31  |  |  |  | 228,450   |  |  |  | 2.31  |  | 
|3.00                      |  |                                                 | 1,250,000 |                                                     |       |                                     | 8.17 |                                               |  |                                     |  | 3.00  |  |  |  | 1,000,000 |  |  |  | 3.00  |  | 
|3.28-3.75                 |  |                                                 | 30,900    |                                                     |       |                                     | 2.34 |                                               |  |                                     |  | 3.73  |  |  |  | 30,900    |  |  |  | 3.73  |  | 
|4.06-5.15                 |  |                                                 | 332,950   |                                                     |       |                                     | 2.53 |                                               |  |                                     |  | 4.24  |  |  |  | 332,950   |  |  |  | 4.24  |  | 
|5.25-5.70                 |  |                                                 | 116,450   |                                                     |       |                                     | 1.28 |                                               |  |                                     |  | 5.49  |  |  |  | 116,450   |  |  |  | 5.49  |  | 
|16.875-34.375             |  |                                                 | 46,550    |                                                     |       |                                     | 1.31 |                                               |  |                                     |  | 31.75 |  |  |  | 46,550    |  |  |  | 31.75 |  | 
|43.13-45.00               |  |                                                 | 20,000    |                                                     |       |                                     | 1.81 |                                               |  |                                     |  | 44.89 |  |  |  | 20,000    |  |  |  | 44.89 |  | 
|61.25-69.375              |  |                                                 | 16,600    |                                                     |       |                                     | 1.92 |                                               |  |                                     |  | 67.71 |  |  |  | 16,600    |  |  |  | 67.71 |  | 
|                          |  |                                                 |           |                                                     |       |                                     |      |                                               |  |                                     |  |       |  |  |  |           |  |  |  |       |  | 
|                          |  |                                                 | 2,825,900 |                                                     |       |                                     |      |                                               |  |                                     |  |       |  |  |  | 2,130,900 |  |  |  |       |  | 
|                          |  |                                                 |           |                                                     |       |                                     |      |                                               |  |                                     |  |       |  |  |  |           |  |  |  |       |  | 

F  44

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 12  Commitments and Contingencies:

|   |                                                                                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|-- | --------------------------------------------------------------------------------------------------------------------------------------- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|A. | Commitments:                                                                                                                           
|   |                                                                                                                                        
|   |                                                                                                                                         | Some of the
  Companys subsidiaries have commitments to the Chief Scientist and to the
  Marketing Promotion Fund, to pay royalties at a rate of 3%-3.5% of the
  proceeds from the sale of software products which were developed with the
  assistance of the Chief Scientist and marketed with the assistance of the
  Marketing Promotion Fund. The amount of royalties is limited to 100%-150% of
  the amount received.  The subsidiaries
  are only obliged to repay the grants received from the Office of the Chief
  Scientist if revenue is generated from the sale of the said software
  products.
|   |                                                                                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|   |                                                                                                                                        
|   | The balance
  of the contingent liability in respect of the aforesaid, amounted to
  approximately $10 million as of December 31, 2007.
|   |                                                                                                                                        
|B. | Liens:                                                                                                                                 
|   |                                                                                                                                        
|   | 1.                                                                                                                                      | Some of the
  subsidiaries have liens on leased vehicles, leased equipment and other assets
  in favor of the leasing companies.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|   |                                                                                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|   | 2.                                                                                                                                      | Some of the
  subsidiaries have given floating charges in favor of banks and other
  financial institutions.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|   |                                                                                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|C. | Guarantees:                                                                                                                            
|   |                                                                                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|   | 1.                                                                                                                                      | Subsidiaries
  have provided bank guarantees in the amount of approximately $12.1 million as
  security for the performance of various contracts with customers. If the
  subsidiaries were to breach certain terms of such contracts, the customers
  could demand that the banks providing the guarantees pay amounts claimed to
  be due.                                                                                                                                                                                                                                                                    
|   |                                                                                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|   | 2.                                                                                                                                      | Subsidiaries
  have provided bank guarantees in the amount of $1.3 million as security for
  rent to be paid for their offices. If the subsidiaries were to breach certain
  terms of their lease, the leaser could demand that the banks providing the
  guarantees pay amounts claimed to be due.                                                                                                                                                                                                                                                                                                             
|   |                                                                                                                                        

F  45

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 12  Commitments and Contingencies
(cont.):

|   |                                                                                                                                                                                             
|-- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|D. | Others:                                                                                                                                                                                     
|   |                                                                                                                                                                                             
|   | In
  connection with credit facilities of subsidiaries, these subsidiaries have
  entered into agreements with various banks. Accordingly, the subsidiaries
  committed, among other things:

|   |                                                                                                                                                                                             |                                                                                           
|-- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ------------------------------------------------------------------------------------------
|   | a.                                                                                                                                                                                          | To maintain
  certain financial ratios.                                                   
|   |                                                                                                                                                                                             |                                                                                           
|   | b.                                                                                                                                                                                          | Not to grant
  a security interest in all or substantially all of their respective assets.
|   |                                                                                                                                                                                             |                                                                                           
|E. | Legal Proceedings:                                                                                                                                                                         
|   |                                                                                                                                                                                            
|   | Lawsuits
  have been submitted against certain subsidiaries in the ordinary course of
  business. The group followed SFAS No. 5, and recorded provision where it was
  appropriate.        
|   |                                                                                                                                                                                            
|F. | Lease Commitments:                                                                                                                                                                         
|   |                                                                                                                                                                                            
|   | The following
  are details of the future minimum lease commitments of office equipment,
  office space and motor vehicles under non-cancelable operating leases as of
  December 31, 2007:

| |                       |  |  |                        | 
| | --------------------- |  |  | ---------------------- | 
| |                       |  |  | U.S. $ in 
  thousands | 
| |                       |  |  |                        | 
| |                       | 
| | 2008                  |  |  | 19,637                 | 
| | 2009                  |  |  | 13,282                 | 
| | 2010                  |  |  | 6,801                  | 
| | 2011                  |  |  | 2,045                  | 
| | 2012 and
  thereafter |  |  | 341                    | 
| |                       |  |  |                        | 
| |                       |  |  | 42,106                 | 
| |                       |  |  |                        | 

| |                                                                                                                                                   
| | --------------------------------------------------------------------------------------------------------------------------------------------------
| | Rent
  expenses for the years ended December 31, 2007, 2006 and 2005, were
  approximately $24 million, $20 million and $19 million, respectively.
| |                                                                                                                                                   
| | Most of the
  building leases will expire by 2010.                                                                                                

F  46

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 13  Shareholders Equity:

|   |                                                  
|-- | -------------------------------------------------
|A. | Share Capital Authorized, Issued and Outstanding:

|                                      |  |                   |            |                   |  |             |  |            |            |        |  |             |  |  |            |  |  |            | 
|------------------------------------- |  | ----------------- | ---------- | ----------------- |  | ----------- |  | ---------- | ---------- | ------ |  | ----------- |  |  | ---------- |  |  | ---------- | 
|                                      |  | December 31, 2007 |            | December 31, 2006 | 
|                                      |  |                   |            |                   | 
|                                      |  | Authorized        |            | Issued            |  | Outstanding |  | Authorized |            | Issued |  | Outstanding | 
|                                      |  |                   |            |                   |  |             |  |            |            |        |  |             | 
|                                      |  | NIS               |            | NIS               |  | NIS         |  | NIS        |            | NIS    |  | NIS         | 
|                                      |  |                   |            |                   |  |             |  |            |            |        |  |             | 
|                                     
|Ordinary shares, NIS 1 par value each |  |                   | 25,000,000 |                   |  | 13,224,780  |  |            | 13,200,000 |        |  | 25,000,000  |  |  | 13,224,780 |  |  | 13,200,000 | 
|                                      |  |                   |            |                   |  |             |  |            |            |        |  |             |  |  |            |  |  |            | 

|   |                                                                                                                                                                                                                                                                                                  |                                                                                                                                                                                                              
|-- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------ | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   | 1.                                                                                                                                                                                                                                                                                               | Formulas
  shares are traded in the TASE and through ADSs, each representing one
  ordinary share of NIS 1 par value, quoted on the NASDAQ Global Market in the
  United States.                            
|   |                                                                                                                                                                                                                                                                                                  |                                                                                                                                                                                                              
|   | 2.                                                                                                                                                                                                                                                                                               | In 2002,
  Formula repurchased 324,780 of its ordinary shares in the open market for an
  aggregate of $3.4 million. In 2003, Formula sold 300,000 of its ordinary
  shares for an aggregate of $4.8 million.
|   |                                                                                                                                                                                                                                                                                                  |                                                                                                                                                                                                              
|   | 3.                                                                                                                                                                                                                                                                                               | In March
  2005, Formula completed a private placement of 2,400,000 Formula shares for
  an aggregate consideration of $33 million.                                                                          
|   |                                                                                                                                                                                                                                                                                                 
|B. | Details of Share Options Granted to Employees:                                                                                                                                                                                                                                                  
|   |                                                                                                                                                                                                                                                                                                 
|   | In November
  2000, Formulas Board of Directors adopted an option plan pursuant to which
  Formula could grant options to employees of Formula to purchase up to a total
  of 300,000 ordinary shares.                                                                                         
|   |                                                                                                                                                                                                                                                                                                 
|   | In
  accordance with this plan, employees of Formula and its subsidiaries were
  granted, for no consideration, options to purchase 64,500 shares of Formula
  exercisable at $30.8 per share, linked to the CPI. None of these options have
  been exercised and they expired in November 2005.

| | The
following is a summary   of the status of Formulas option plans as of December 31,
2005 and for the   year then ended:
| | ---------------------------------------------------------------------------------------------------------------------------

| |                                                    |  |                                |         |                                       |  |      | 
| | -------------------------------------------------- |  | ------------------------------ | ------- | ------------------------------------- |  | ---- | 
| |                                                    |  | Year ended
  December 31, 2005 |        
| |                                                    |  |                                |        
| |                                                    |  |                                |         | Weighted
  Average
  Exercise
  Price | 
| |                                                    |  | Number of                      |         |                                       | 
| |                                                    |  | Options                        |         | $                                     | 
| |                                                    |  |                                |         |                                       | 
| | Outstanding options at the
  beginning of the year |  |                                | 64,500  |                                       |  | 30.8 | 
| |                                                    |  |                                |         |                                       |  |      | 
| | Changes
  during the year:                         |  |                                |         |                                       |  |      | 
| |                                                    |  |                                |         |                                       |  |      | 
| | Expired and forfeited                              |  |                                | (64,500 | )                                     |  | -    | 
| |                                                    |  |                                |         |                                       |  |      | 
| |                                                    |  |                                |         |                                       |  |      | 
| | Outstanding options at the end of the
year         |  |                                | -       |                                       |  | 30.8 | 
| |                                                    |  |                                |         |                                       |  |      | 
| |                                                    |  |                                |         |                                       |  |      | 
| | Exercisable options at the end of the
year         |  |                                | -       |                                       |  | 30.8 | 
| |                                                    |  |                                |         |                                       |  |      | 
| |                                                    |  |                                |         |                                       |  |      | 

|   |                                                                                                      
|-- | -----------------------------------------------------------------------------------------------------
|C. | On June 1,
  2005, Formula declared and distributed a cash dividend in the amount of $50.2
  million.
|  
|   | See also
  note 2E.                                                                                  

F  47

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 14  Taxes on Income:

|   |                     |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|-- | ------------------- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|A. | Tax Laws in Israel:
|   |                     |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|   | 1.                  | Tax benefits under the Israeli Law for the Encouragement of Capital
  Investments, 1959 (hereafter - the Law):                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|   |                     |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|   |                     | Some
  operations of certain subsidiaries have been granted the status of an
  Approved Enterprise under the Law. According to the provisions of the Law,
  the subsidiaries have elected the alternative benefits program and as such
  are entitled to receive certain tax benefits including accelerated
  depreciation of fixed assets in the investment programs as well as a full tax
  exemption on undistributed income that is derived from the portion of the
  Company and its subsidiaries facilities granted approved enterprise status,
  for a period of 10 years or a full tax exemption for a period of 6 years and
  reduced tax rates of 10%-25% (based on the percentage of foreign ownership in
  each taxable year) for an additional period of up to 4 years. The benefits
  commence with the date on which taxable income is first earned. The period of
  tax benefits detailed above is subject to a limit of the earlier of 12 years
  from the commencement of production or 14 years from receiving the approval.
|   |                     |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|   |                     | The
  entitlement to the above benefits is conditional upon the Company fulfilling
  the conditions stipulated by the above Law, regulations published thereafter
  and the certificates of approval for the specific investments in an Approved
  Enterprise. In the event of failure to comply with these conditions, the
  benefits may be canceled and the subsidiary may be required to refund the
  amount of the benefits, in whole or in part, including interest.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|   |                     |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|   |                     | The
  tax-exempt income attributable to an Approved Enterprise can be distributed
  to shareholders without subjecting the Company to taxes only upon the
  complete liquidation of the Company. If this net retained tax-exempt income
  is distributed in a manner other than in the complete liquidation of the
  company, it would be taxed at the corporate tax rate applicable to such
  profits as if the Company had not elected the alternative tax benefits
  (currently 25% of the gross dividend).                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|   |                     |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|   |                     | The
  subsidiary does not anticipate paying dividends in the foreseeable future.
  Accordingly, no deferred tax liabilities have been provided on income
  attributable to the Companys Approved Enterprises.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    

F  48

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 14  Taxes on Income (Cont.):

|   |                             |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|-- | --------------------------- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|A. | Tax Laws in Israel (cont.):
|   |                             |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|   | 1.                          | Tax benefits under the Israeli Law for the Encouragement of Capital
  Investments, 1959 (hereafter - the Law) (cont.):                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|   |                             |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|   |                             | Income from
  sources other than the Approved Enterprise during the period of benefits
  will be taxable at regular corporate tax rates.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|   |                             |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|   |                             | An amendment to the Law,
  effective April 1, 2005 (the Amendment) changed certain provisions of the
  Law. The Amendment allowed tax benefits to be awarded pursuant to the Law so
  that companies no longer require Investment Center pre-approval in order to
  qualify for tax benefits. The subsidiaries existing Approved Enterprises will
  generally not be covered by the Amendment. As a result of the Amendment,
  where the benefits from tax-exempt income pursuant to the new regime, any
  such tax-exempt income generated will be subject to taxes on its distribution
  or upon liquidation of the subsidiary.                                                             
|   |                             |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|   | 2.                          | Measurement of results for tax purposes under the Income Tax
  (Inflationary Adjustments) Law,                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|   |                             | 1985 (hereafter - the Inflationary Adjustments Law):                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|   |                             |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|   |                             | Results for
  tax purposes in Israel are measured and reflected in real terms in accordance
  with the change in the CPI. The consolidated financial statements are
  presented in dollars. The differences between the change in the Israeli CPI
  and in the NIS/dollar exchange rate causes a difference between taxable
  income or loss and the income or loss before taxes reflected in the
  consolidated financial statements. In accordance with paragraph 9(f) of SFAS
  No. 109, Accounting for Income Taxes (SFAS No. 109), the Company has not
  provided deferred income taxes on this difference between the reporting
  currency and the tax bases of assets and liabilities.
|   |                             |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|   | 3.                          | Tax benefits under the Law for the Encouragement of Industry
  (Taxation), 1969:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|   |                             |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|   |                             | Some
  subsidiaries currently qualify as an Industrial Company as defined by this
  law, and as such are entitled to certain tax benefits including, inter alia,
  depreciation at increased rates as stipulated by regulations published under
  the Inflationary Adjustments Law and the right to deduct, for tax purposes,
  over a period of 3 years, expenses relating to public issue of shares. If
  realized, any tax benefit relating to issuance expenses is credited to capital
  surplus.                                                                                                                                                                                         

F  49

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 14  Taxes on Income (Cont.):

|   |                             |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|-- | --------------------------- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|A. | Tax Laws in Israel (cont.):
|   |                             |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|   | 4.                          | Tax Rates Applicable to Income in Israel:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|   |                             |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|   |                             | On July 25,
  2005, the Law for Amendment of the Income Tax Ordinance (Amendment No.147)
  became effective. Pursuant to this amendment, the income tax applicable to
  Israeli companies will be gradually reduced from 34% in 2005 to 25% in 2010
  and henceforth.                                                                                                                                                                                                                                                                                                                        
|   |                             |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|   | 5.                          | Changes
  in the tax laws applicable to the Company:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|   |                             |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|   |                             | During
  February 2008, the Knesset (Israeli parliament) passed an amendment to the
  Income Tax (Inflationary Adjustments) Law, 1985, which limits the scope of
  the law starting 2008 and thereafter. Starting 2008, the results for tax
  purposes will be measured in nominal values, excluding certain adjustments
  for changes in the Consumer Price Index carried out in the period up to
  December 31, 2007. The amended law includes, inter alia, the elimination of
  the inflationary additions and deductions and the additional deduction for
  depreciation starting 2008.

F  50

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 14  Taxes on Income (cont.):

|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |             
|-- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ------------
|B. | Subsidiaries outside Israel:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|   | Subsidiaries
  that are not an Israeli resident are taxed in the countries in which they are
  resident, according to the tax laws in those countries.                                                                                                                                                                                                                                                                                                                                                                                                                                       
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|C. | Cumulative Tax Losses:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|   | The Company
  and its subsidiaries have cumulative operating losses for tax purposes as of
  December 31, 2007 totaling approximately $193.3 million, of which $164.6
  million is in respect of Companies in Israel (December 31, 2006 - $190.8
  million), and approximately $28.7 million in respect of companies abroad
  (December 31, 2006 - $31.5 million). The likelihood of the utilization of
  most of these losses in the future is low. Therefore, the company recorded a
  valuation allowance against the deferred taxes attributed to the operating
  losses carried forward.
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|D. | Income Tax Assessments:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|   | In 2007,
  Formula paid approximately $250 thousand, as taxes for the years 2001-2004,
  after reaching an agreement with the Israeli tax authorities for those years.                                                                                                                                                                                                                                                                                                                                                                                                                       
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|E. | Deferred Taxes:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|   | 1.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            | Composition:

|                                     |  |                       |         |      |  |         |   |  |         |  
|------------------------------------ |  | --------------------- | ------- | ---- |  | ------- | - |  | ------- | -
|                                     |  | December 31,          |        
|                                     |  |                       |        
|                                     |  | 2007                  |         | 2006 |  | 2005    |  
|                                     |  |                       |         |      |  |         |  
|                                     |  | (U.S. $ in thousands) |        
|                                     |  |                       |        
|Net operating losses carried forward |  |                       | 55,164  |      |  | 67,969  |   |  | 54,156  |  
|                                     |  |                       |         |      |  |         |   |  |         |  
|Software development costs           |  |                       | 266     |      |  | 239     |   |  | 71      |  
|                                     |  |                       |         |      |  |         |   |  |         |  
|Allowances and reserves              |  |                       | 4,351   |      |  | 3,447   |   |  | 2,883   |  
|                                     |  |                       |         |      |  |         |   |  |         |  
|Adjustments to cash basis            |  |                       | (3,276  | )    |  | -       |   |  | -       |  
|                                     |  |                       |         |      |  |         |   |  |         |  
|                                     |  |                       | 56,505  |      |  | 71,655  |   |  | 57,110  |  
|                                     |  |                       |         |      |  |         |   |  |         |  
|Valuation allowance                  |  |                       | (45,635 | )    |  | (62,486 | ) |  | (50,297 | )
|                                     |  |                       |         |      |  |         |   |  |         |  
|Total                                |  |                       | 10,870  |      |  | 9,169   |   |  | 6,813   |  
|                                     |  |                       |         |      |  |         |   |  |         |  

| |                                                                                                                                                                                                                                        
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | Most of the
  valuation allowances for which the Company and its subsidiaries were
  provided, are against the deferred tax assets in respect of tax losses carry
  forward. As a result, most of the valuation allowance is long-term.

F  51

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 14  Taxes on Income (cont.):

|   |                         |                                
|-- | ----------------------- | -------------------------------
|E. | Deferred Taxes (cont.):
|   |                        
|   | 2.                      | Presentation in balance sheets:

|                                   |  |                       |        |      |  |       |  
|---------------------------------- |  | --------------------- | ------ | ---- |  | ----- | -
|                                   |  | December 31,          |       
|                                   |  |                       |       
|                                   |  | 2007                  |        | 2006 | 
|                                   |  |                       |        |      | 
|                                   |  | (U.S. $ in thousands) |       
|                                   |  |                       |       
|Stated in current assets           |  |                       | 2,709  |      |  | 2,579 |  
|                                   |  |                       |        |      |  |       |  
|Stated in other assets             |  |                       | 11,437 |      |  | 7,047 |  
|                                   |  |                       |        |      |  |       |  
|Stated in long term liabilities    |  |                       | (3,276 | )    |  | (457  | )
|                                   |  |                       |        |      |  |       |  
|Total (included in balance sheets) |  |                       | 10,870 |      |  | 9,169 |  
|                                   |  |                       |        |      |  |       |  

|   |                               
|-- | ------------------------------
|F. | Income before Taxes on Income:

|         |  |                         |        |      |  |        |   |  |        |  
|-------- |  | ----------------------- | ------ | ---- |  | ------ | - |  | ------ | -
|         |  | Year ended December 31, |       
|         |  |                         |       
|         |  | 2007                    |        | 2006 |  | 2005   |  
|         |  |                         |        |      |  |        |  
|         |  | (U.S. $ in thousands)   |       
|         |  |                         |       
|         |  |                         |       
|Domestic |  |                         | 15,452 |      |  | 11,244 |   |  | 9,025  |  
|         |  |                         |        |      |  |        |   |  |        |  
|Foreign  |  |                         | 9,262  |      |  | (3,185 | ) |  | (2,857 | )
|         |  |                         |        |      |  |        |   |  |        |  
|Total    |  |                         | 24,714 |      |  | 8,059  |   |  | 6,168  |  
|         |  |                         |        |      |  |        |   |  |        |  

|   |                                                      
|-- | -----------------------------------------------------
|G. | Taxes on Income Included in Statements of Operations:

|                                            |  |                         |        |      |  |        |   |  |       | 
|------------------------------------------- |  | ----------------------- | ------ | ---- |  | ------ | - |  | ----- | 
|                                            |  | Year ended December 31, |       
|                                            |  |                         |       
|                                            |  | 2007                    |        | 2006 |  | 2005   |  
|                                            |  |                         |        |      |  |        |  
|                                            |  | (U.S. $ in thousands)   |       
|                                            |  |                         |       
|                                            |  |                         |       
|Current
  taxes:                            |  |                         |        |      |  |        |   |  |       | 
|                                            |  |                         |        |      |  |        |   |  |       | 
|In Israel                                   |  |                         | 3,767  |      |  | 4,459  |   |  | 3,364 | 
|                                            |  |                         |        |      |  |        |   |  |       | 
|Abroad                                      |  |                         | 692    |      |  | 645    |   |  | 596   | 
|                                            |  |                         |        |      |  |        |   |  |       | 
|                                            |  |                         | 4,459  |      |  | 5,104  |   |  | 3,960 | 
|                                            |  |                         |        |      |  |        |   |  |       | 
|Taxes in
  Israel in respect of prior years |  |                         | (468   | )    |  | (44    | ) |  | 8     | 
|                                            |  |                         |        |      |  |        |   |  |       | 
|Deferred
  taxes, net                       |  |                         | (2,058 | )    |  | (1,294 | ) |  | 679   | 
|                                            |  |                         |        |      |  |        |   |  |       | 
|Total                                       |  |                         | 1,933  |      |  | 3,766  |   |  | 4,647 | 
|                                            |  |                         |        |      |  |        |   |  |       | 

F  52

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 14  Taxes on Income (cont.):

|   |                                                                                                                                                                                                                 
|-- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|H. | Theoretical Tax:                                                                                                                                                                                                
|   |                                                                                                                                                                                                                 
|   | The
 following is reconciliation between the theoretical tax expense, assuming
 that all income was taxed at ordinary tax rates, and the actual income tax
 expense, as recorded in the statement of operations:

| |                                                                                                           |  |                         |        |      |  |        |   |  |        |  
| | --------------------------------------------------------------------------------------------------------- |  | ----------------------- | ------ | ---- |  | ------ | - |  | ------ | -
| |                                                                                                           |  | Year ended December 31, |       
| |                                                                                                           |  |                         |       
| |                                                                                                           |  | 2007                    |        | 2006 |  | 2005   |  
| |                                                                                                           |  |                         |        |      |  |        |  
| |                                                                                                           |  | (U.S. $ in thousands)   |       
| |                                                                                                           |  |                         |       
|
| | Income before taxes on income, as per the
 statement of continuing operations                             |  |                         | 24,714 |      |  | 8,057  |   |  | 6,168  |  
| |                                                                                                           |  |                         |        |      |  |        |   |  |        |  
| | Statutory tax rate in Israel                                                                              |  |                         | 29     | %    |  | 31     | % |  | 34     | %
| |                                                                                                           |  |                         |        |      |  |        |   |  |        |  
| | Theoretical tax expense                                                                                   |  |                         | 7,167  |      |  | 2,498  |   |  | 2,097  |  
|
| | Additional tax (tax savings) in respect of:                                                               |  |                         |        |      |  |        |   |  |        |  
| |                                                                                                           |  |                         |        |      |  |        |   |  |        |  
| | Non-deductible expenses                                                                                   |  |                         | 705    |      |  | 1,218  |   |  | 978    |  
| |                                                                                                           |  |                         |        |      |  |        |   |  |        |  
| | Tax-exempt income ,change in tax rate and
 reduced tax rates in companies which have approved enterprises |  |                         | 172    |      |  | (556   | ) |  | 387    |  
| |                                                                                                           |  |                         |        |      |  |        |   |  |        |  
| | Losses (utilization of losses) and
 temporary differences for which deferred taxes were not recorded, net |  |                         | (4,837 | )    |  | (1,200 | ) |  | (759   | )
| |                                                                                                           |  |                         |        |      |  |        |   |  |        |  
| | Write off of deferred taxes and tax
 advances                                                             |  |                         | 885    |      |  | 2,494  |   |  | 1,797  |  
| |                                                                                                           |  |                         |        |      |  |        |   |  |        |  
| | Taxes in respect of previous years                                                                        |  |                         | (468   | )    |  | (40    | ) |  | 145    |  
| |                                                                                                           |  |                         |        |      |  |        |   |  |        |  
| | Effect of the Inflationary Adjustments Law                                                                |  |                         | (1,726 | )    |  | (398   | ) |  | (14    | )
| |                                                                                                           |  |                         |        |      |  |        |   |  |        |  
| | Other                                                                                                     |  |                         | 35     |      |  | (250   | ) |  | 16     |  
| |                                                                                                           |  |                         |        |      |  |        |   |  |        |  
| | Taxes on income as per the statement of
 operations                                                       |  |                         | (1,933 | )    |  | (3,766 | ) |  | (4,647 | )
| |                                                                                                           |  |                         |        |      |  |        |   |  |        |  
| | Effective tax rate - in %                                                                                 |  |                         | 7.82   | %    |  | 46.7   | % |  | 75.3   | %
| |                                                                                                           |  |                         |        |      |  |        |   |  |        |  

|   |                                                                                                                                                                                                                                                                                                                                                                                                                                        
|-- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|I. | Uncertain tax positions:                                                                                                                                                                                                                                                                                                                                                                                                               
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                        
|   | The Company
 and its subsidiaries adopted the provisions of FASB Interpretation No. 48,
 Accounting for Uncertainty in Income Taxes (FIN 48) on January 1, 2007.
 This Interpretation clarifies the accounting for uncertainty in income taxes
 recognized in an enterprises financial statements in accordance with SFAS
 No. 109 and prescribes a recognition threshold of more-likely-than-not to be
 sustained upon examination.

F  53

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

14  Taxes on Income (cont.):

|   |                                                                                                                                                          
|-- | ---------------------------------------------------------------------------------------------------------------------------------------------------------
|I. | Uncertain tax positions (cont.):                                                                                                                         
|   |                                                                                                                                                          
|   | A
 reconciliation of the beginning and ending amount of total unrecognized tax
 benefits in the Companys subsidiaries, Magic and Sapiens, is as follows:

| |                                                 |  |                       |  |      |   | 
| | ----------------------------------------------- |  | --------------------- |  | ---- | - | 
| |                                                 |  | (U.S. $ in thousands) | 
| |                                                 |  |                       | 
| |                                                 |  |                       |  |     
| | Balance as
 of January 1, 2007                  |  |                       |  | 830  |   | 
| |                                                 |  |                       |  |      |   | 
| | Increases related to current year tax
positions |  |                       |  | 50   |   | 
| |                                                 |  |                       |  |      |   | 
| | Settlements                                     |  |                       |  | (150 | ) | 
| |                                                 |  |                       |  |      |   | 
| | Balance as
 of December 31, 2007                |  |                       |  | 730  |   | 
| |                                                 |  |                       |  |      |   | 

| |                                                                                                                                                       
| | ------------------------------------------------------------------------------------------------------------------------------------------------------
| | The impact
 of adopting FIN 48 is estimated in the amount of $430 thousand on the
 Companys retained earnings and $400 thousand on minority interest.

Note 15  Supplementary Financial Statement
Information:

Balance Sheet:

|   |                      
|-- | ---------------------
|A. | Other Current Assets:
|   |                      
|   | Composition:         

| |                                             |  |                       |        |      |  |        | 
| | ------------------------------------------- |  | --------------------- | ------ | ---- |  | ------ | 
| |                                             |  | December 31,          |       
| |                                             |  |                       |       
| |                                             |  | 2007                  |        | 2006 | 
| |                                             |  |                       |        |      | 
| |                                             |  | (U.S. $ in thousands) |       
| |                                             |  |                       |       
|
| | Government
 departments                     |  |                       | 5,500  |      |  | 5,179  | 
| |                                             |  |                       |        |      |  |        | 
| | Employees
 (1)                              |  |                       | 432    |      |  | 350    | 
| |                                             |  |                       |        |      |  |        | 
| | Prepaid
 expenses and advances to suppliers |  |                       | 8,313  |      |  | 5,223  | 
| |                                             |  |                       |        |      |  |        | 
| | Deferred
 taxes                             |  |                       | 2,709  |      |  | 2,579  | 
| |                                             |  |                       |        |      |  |        | 
| | Debtors from
 a sale of subsidiary          |  |                       | 16,000 |      |  | -      | 
| |                                             |  |                       |        |      |  |        | 
| | Other                                       |  |                       | 1,868  |      |  | 4,251  | 
| |                                             |  |                       |        |      |  |        | 
| | Total                                       |  |                       | 34,822 |      |  | 17,582 | 
| |                                             |  |                       |        |      |  |        | 

| |     |                                                                                           
| | --- | ------------------------------------------------------------------------------------------
| | (1) | Some of
 these balances are linked to the CPI, and bear interest at an annual rate of
 4%.

F  54

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 15  Supplementary Financial Statement
Information (cont.):

|   |                                 
|-- | --------------------------------
|B. | Liabilities to Banks and Others:
|   |                                 
|   | Composition:                    

| |                                                   |  |                  |         |               |                       |          |              |  |        |  |  |        | 
| | ------------------------------------------------- |  | ---------------- | ------- | ------------- | --------------------- | -------- | ------------ |  | ------ |  |  | ------ | 
| |                                                   |  | December 31,2007 |         |               |                       |          | December 31, | 
| |                                                   |  |                  |         |               |                       |          |              | 
| |                                                   |  | Interest rate    |         |               |                       |          | 2007         |  | 2006   | 
| |                                                   |  |                  |         | Linkage basis |                       |          |              |  |       
| |                                                   |  | %                |         |               | (U.S. $ in thousands) |         
| |                                                   |  |                  |         |               |                       |          |             
| | Bank overdraft                                    |  |                  | 5.6-6.6 |               |                       | Unlinked |              |  | 1,175  |  |  | 5,166  | 
| |                                                   |  |                  |         |               |                       |          |              |  |        |  |  |        | 
| | Short-term bank loans                             |  |                  | 5.4-5.7 |               |                       | Unlinked |              |  | 4,731  |  |  | 8,835  | 
| |                                                   |  |                  |         |               |                       |          |              |  |        |  |  |        | 
| | Short-term bank loans                             |  |                  | 6.4-7.2 |               |                       | Dollar   |              |  | 8,150  |  |  | 4,570  | 
| |                                                   |  |                  |         |               |                       |          |              |  |        |  |  |        | 
| | Short-term bank loans                             |  |                  | 5.5-6   |               |                       | Euro     |              |  | 1,479  |  |  | 3,184  | 
| |                                                   |  |                  |         |               |                       |          |              |  |        |  |  |        | 
| | Short-term bank loans                             |  |                  | 5.25    |               |                       | Other    |              |  | 705    |  |  | 975    | 
| |                                                   |  |                  |         |               |                       |          |              |  |        |  |  |        | 
| | Current maturities of long-term loans from
 banks |  |                  |         |               |                       |          |              |  | 10,714 |  |  | 17,684 | 
| |                                                   |  |                  |         |               |                       |          |              |  |        |  |  |        | 
| | Total                                             |  |                  |         |               |                       |          |              |  | 26,954 |  |  | 40,414 | 
| |                                                   |  |                  |         |               |                       |          |              |  |        |  |  |        | 

|   |                        
|-- | -----------------------
|C. | Other Accounts Payable:
|   |                        
|   | Composition:           

| |                                                          |  |                       |        |      |  |        | 
| | -------------------------------------------------------- |  | --------------------- | ------ | ---- |  | ------ | 
| |                                                          |  | December 31,          |       
| |                                                          |  |                       |       
| |                                                          |  | 2007                  |        | 2006 | 
| |                                                          |  |                       |        |      | 
| |                                                          |  | (U.S. $ in thousands) |       
| |                                                          |  |                       |       
| |                                                          |  |                       |        |      |  |        | 
| | Employees
 and other wage and salary related liabilities |  |                       | 30,586 |      |  | 20,184 | 
| |                                                          |  |                       |        |      |  |        | 
| | Government
 departments                                  |  |                       | 8,810  |      |  | 9,889  | 
| |                                                          |  |                       |        |      |  |        | 
| | Prepaid
 income and customer advances                    |  |                       | 20,908 |      |  | 19,350 | 
| |                                                          |  |                       |        |      |  |        | 
| | Accrued
 expenses and other current liabilities          |  |                       | 12,768 |      |  | 7,544  | 
| |                                                          |  |                       |        |      |  |        | 
| | Total                                                    |  |                       | 73,072 |      |  | 56,967 | 
| |                                                          |  |                       |        |      |  |        | 

|   |                                       
|-- | --------------------------------------
|D. | Restructuring and Non-Recurring Costs:

| |                                           |  |                         |   |      |  |       |  |  |       | 
| | ----------------------------------------- |  | ----------------------- | - | ---- |  | ----- |  |  | ----- | 
| |                                           |  | Year ended December 31, |  
| |                                           |  |                         |  
| |                                           |  | 2007                    |   | 2006 |  | 2005  | 
| |                                           |  |                         |   |      |  |       | 
| |                                           |  | (U.S. $ in thousands)   |  
| |                                           |  |                         |  
| |                                           |  |                         |   |      |  |       |  |  |       | 
| | Wages and
 related expenses               |  |                         | - |      |  | 1,882 |  |  | 1,455 | 
| |                                           |  |                         |   |      |  |       |  |  |       | 
| | Expenses
 relating to closing of branches |  |                         | - |      |  | 1,029 |  |  | -     | 
| |                                           |  |                         |   |      |  |       |  |  |       | 
| | Total                                     |  |                         | - |      |  | 2,911 |  |  | 1,455 | 
| |                                           |  |                         |   |      |  |       |  |  |       | 

| |                                                                                                                                                                                                                                                                           
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | Restructuring
 expenses were recorded by consolidated companies and relate to the
 proprietary software products segment. These companies announced the adoption
 of a restructuring plan in order to reduce expenses and improve
 organizational and business efficiency.

F  55

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 15    Supplementary Financial Statement
Information (cont.):

|   |                         
|-- | ------------------------
|E. | Financial Expenses, Net:
|   |                         
|   | Composition:            

| |                                                           |  |                         |        |      |  |        |   |  |        |  
| | --------------------------------------------------------- |  | ----------------------- | ------ | ---- |  | ------ | - |  | ------ | -
| |                                                           |  | Year ended December 31, |       
| |                                                           |  |                         |       
| |                                                           |  | 2007                    |        | 2006 |  | 2005   |  
| |                                                           |  |                         |        |      |  |        |  
| |                                                           |  | (U.S. $ in thousands)   |       
| |                                                           |  |                         |       
| | Financing
  income                                        |  |                         | 6,898  |      |  | 6,310  |   |  | 14,116 |  
| | Financing
  costs related to long-term credit             |  |                         | (6,795 | )    |  | (6,446 | ) |  | (6,792 | )
| | Financing
  costs related to short-term credit and others |  |                         | (3,083 | )    |  | (4,816 | ) |  | (9,948 | )
| | Gain (loss)
  from marketable securities ,net.            |  |                         | (830   | )    |  | 292    |   |  | 565    |  
| |                                                           |  |                         |        |      |  |        |   |  |        |  
| | Total                                                     |  |                         | (3,810 | )    |  | (4,660 | ) |  | (2,059 | )
| |                                                           |  |                         |        |      |  |        |   |  |        |  

|   |                     
|-- | --------------------
|F. | Other Expenses, Net:
|   |                     
|   | Composition:        

| |                                                |  |                         |      |      |  |        |   |  |      |  
| | ---------------------------------------------- |  | ----------------------- | ---- | ---- |  | ------ | - |  | ---- | -
| |                                                |  | Year ended December 31, |     
| |                                                |  |                         |     
| |                                                |  | 2007                    |      | 2006 |  | 2005   |  
| |                                                |  |                         |      |      |  |        |  
| |                                                |  | (U.S. $ in thousands)   |     
| |                                                |  |                         |     
| | Gain on sale
  of fixed assets, net            |  |                         | 7    |      |  | 9      |   |  | 16   |  
| | Impairment
  of fixed assets                   |  |                         | (137 | )    |  | -      |   |  | -    |  
| | Impairment
  in value of cost based investment |  |                         | (512 | )    |  | (423   | ) |  | -    |  
| | Other                                          |  |                         | (108 | )    |  | (688   | ) |  | (357 | )
| |                                                |  |                         |      |      |  |        |   |  |      |  
| | Total                                          |  |                         | (750 | )    |  | (1,102 | ) |  | (341 | )
| |                                                |  |                         |      |      |  |        |   |  |      |  

|   |                                           
|-- | ------------------------------------------
|G. | Gain on Realization of Shareholdings, Net:
|   |                                           
|   | Composition:                              

| |                                                                           |  |                         |       |      |  |       |   |  |       |  
| | ------------------------------------------------------------------------- |  | ----------------------- | ----- | ---- |  | ----- | - |  | ----- | -
| |                                                                           |  | Year ended December 31, |      
| |                                                                           |  |                         |      
| |                                                                           |  | 2007                    |       | 2006 |  | 2005  |  
| |                                                                           |  |                         |       |      |  |       |  
| |                                                                           |  | (U.S. $ in thousands)   |      
| |                                                                           |  |                         |      
| | Loss from sale and decrease in shareholding
  percentage in Magic         |  |                         | (107  | )    |  | (117  | ) |  | (48   | )
| |                                                                           |  |                         |       |      |  |       |   |  |       |  
| | Gain (loss) from sale and decrease in
  shareholding percentage in Matrix |  |                         | (275  | )    |  | (395  | ) |  | 3,357 |  
| |                                                                           |  |                         |       |      |  |       |   |  |       |  
| | Gain from sale and decrease in shareholding
  percentage in Tiltan        |  |                         | 202   |      |  | 1,547 |   |  | -     |  
| | Capital gain (loss) from realization of
  Matrix One                      |  |                         | -     |      |  | 2,485 |   |  | (102  | )
| |                                                                           |  |                         |       |      |  |       |   |  |       |  
| | Gain from sale and decrease in shareholding
  percentage in Sapians       |  |                         | 2,049 |      |  | -     |   |  | -     |  
| | Gain on realization of other investments                                  |  |                         | 170   |      |  | 204   |   |  | (15   | )
| |                                                                           |  |                         |       |      |  |       |   |  |       |  
| | Total                                                                     |  |                         | 2,039 |      |  | 3,724 |   |  | 3,192 |  
| |                                                                           |  |                         |       |      |  |       |   |  |       |  

F  56

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

NOTE 15    Supplementary Financial Statement Information
(cont.):

|   |                                                                                                                                                                                                                                                                                                                                                                                                                               
|-- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|H. | Operating
  Segments:                                                                                                                                                                                                                                                                                                                                                                                                         
|   |                                                                                                                                                                                                                                                                                                                                                                                                                               
|   | The Company operates in
  two reportable business segments: IT Services and proprietary software
  solutions.                                                                                                                                                                                                                                                                                                                 
|   |                                                                                                                                                                                                                                                                                                                                                                                                                               
|   | Software
  Services:                                                                                                                                                                                                                                                                                                                                                                                                          
|   |                                                                                                                                                                                                                                                                                                                                                                                                                               
|   | The following is a list of
  the Groups principal activities: applications development, systems
  integration, migration of IT platforms, IT consulting, e-services,
  outsourcing, conversion services, application and implementation of ERP &
  CRM systems, imported software products and a training school.                                                                                                            
|   |                                                                                                                                                                                                                                                                                                                                                                                                                               
|   | The Group
  provides these IT services across the full system development lifecycle,
  including the definition of business requirements, system analysis, technical
  specifications, coding, testing, training, implementation and maintenance.
  The Company performs its projects on-site or at its own facilities.                                                                                                       
|   |                                                                                                                                                                                                                                                                                                                                                                                                                               
|   | Proprietary
  Software Products:                                                                                                                                                                                                                                                                                                                                                                                              
|   |                                                                                                                                                                                                                                                                                                                                                                                                                               
|   | The Group designs,
  develops and markets proprietary software solutions for sale in selected
  niche markets worldwide. The following is a list of the proprietary software
  solutions that are marketed by the Group:                                                                                                                                                                                                      
|   |                                                                                                                                                                                                                                                                                                                                                                                                                               
|   | Modernization solutions,
  Magic-technology, Magic eMerchant, solutions for law enforcement, application
  software for long term care industry, car rental solutions, solutions for
  banking and finance, solutions for telecommunications, CRM systems, Sapiens
  eMerge, re-engineering and AppBuilder and solutions for the insurance
  industry.                                                                        
|   |                                                                                                                                                                                                                                                                                                                                                                                                                               
|   | All of the Companys
  subsidiaries, including IT services companies and proprietary software
  solutions companies, recognize revenues from the delivery of software
  services, and most of them recognize revenues in both revenue categories. The
  Companys subsidiaries were classified into the following categories in
  accordance with the category in which most of the revenues of each subsidiary
  were earned.
|   |                                                                                                                                                                                                                                                                                                                                                                                                                               
|   | The following is a list of
  the companies included in each operating segment, as of December 31, 2007:                                                                                                                                                                                                                                                                                                                       
|   |                                                                                                                                                                                                                                                                                                                                                                                                                               
|   | Software
  Services:Matrix IT Ltd. 
  NextSource Inc.                                                                                                                                                                                                                                                                                                                                                                         
|   |                                                                                                                                                                                                                                                                                                                                                                                                                               
|   | Proprietary
  Software Products:Magic Software
  Enterprises Ltd. 
  Sapiens International Corporation N.V.                                                                                                                                                                                                                                                                                                                   

F  57

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

NOTE 15  Supplementary Financial Statement Information
(cont.):

|   |                                                                                                                                                                                                                                        
|-- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|H. | Operating Segments (cont.):                                                                                                                                                                                                            
|   |                                                                                                                                                                                                                                        
|   | The Company
  evaluates the performances of each segment, software services and proprietary
  software products, based on operating income/loss. Headquarters and finance
  expenses are allocated proportionally between the segments:

| |                          |  |                       |         |                                   |  |         |   |  |         |  
| | ------------------------ |  | --------------------- | ------- | --------------------------------- |  | ------- | - |  | ------- | -
| |                          |  | Software
  Services   |         | Proprietary
  Software
  Products |  | Total   |  
| |                          |  |                       |         |                                   |  |         |  
| |                          |  | (U.S. $ in thousands) |        
| |                          |  |                       |        
| | Revenues:                |  |                       |         |                                   |  |         |   |  |         |  
| |                          |  |                       |         |                                   |  |         |   |  |         |  
| | 2007                     |  |                       | 392,527 |                                   |  | 100,823 |   |  | 493,350 |  
| |                          |  |                       |         |                                   |  |         |   |  |         |  
| | 2006                     |  |                       | 322,629 |                                   |  | 96,883  |   |  | 419,512 |  
| |                          |  |                       |         |                                   |  |         |   |  |         |  
| | 2005                     |  |                       | 278,808 |                                   |  | 90,940  |   |  | 369,748 |  
| |                          |  |                       |         |                                   |  |         |   |  |         |  
| | Inter-segment sales:     |  |                       |         |                                   |  |         |   |  |         |  
| |                          |  |                       |         |                                   |  |         |   |  |         |  
| | 2007                     |  |                       | -       |                                   |  | -       |   |  | -       |  
| |                          |  |                       |         |                                   |  |         |   |  |         |  
| | 2006                     |  |                       | 2,690   |                                   |  | 15      |   |  | 2,705   |  
| |                          |  |                       |         |                                   |  |         |   |  |         |  
| | 2005                     |  |                       | 3,907   |                                   |  | -       |   |  | 3,907   |  
| |                          |  |                       |         |                                   |  |         |   |  |         |  
| | Operating income (loss): |  |                       |         |                                   |  |         |   |  |         |  
| |                          |  |                       |         |                                   |  |         |   |  |         |  
| | 2007                     |  |                       | 25,473  |                                   |  | 1,762   |   |  | 27,235  |  
| |                          |  |                       |         |                                   |  |         |   |  |         |  
| | 2006                     |  |                       | 18,780  |                                   |  | (8,683  | ) |  | 10,097  |  
| |                          |  |                       |         |                                   |  |         |   |  |         |  
| | 2005                     |  |                       | 18,909  |                                   |  | (13,533 | ) |  | 5,376   |  
| |                          |  |                       |         |                                   |  |         |   |  |         |  
| | Financial expenses:      |  |                       |         |                                   |  |         |   |  |         |  
| |                          |  |                       |         |                                   |  |         |   |  |         |  
| | 2007                     |  |                       | (1,394  | )                                 |  | (2,416  | ) |  | (3,810  | )
| |                          |  |                       |         |                                   |  |         |   |  |         |  
| | 2006                     |  |                       | (2,464  | )                                 |  | (2,196  | ) |  | (4,660  | )
| |                          |  |                       |         |                                   |  |         |   |  |         |  
| | 2005                     |  |                       | (227    | )                                 |  | (1,832  | ) |  | (2,059  | )
| |                          |  |                       |         |                                   |  |         |   |  |         |  
| | Net income (loss):       |  |                       |         |                                   |  |         |   |  |         |  
| |                          |  |                       |         |                                   |  |         |   |  |         |  
| | 2007                     |  |                       | 11,386  |                                   |  | 1,075   |   |  | 12,461  |  
| |                          |  |                       |         |                                   |  |         |   |  |         |  
| | 2006                     |  |                       | 6,146   |                                   |  | (6,638  | ) |  | (492    | )
| |                          |  |                       |         |                                   |  |         |   |  |         |  
| | 2005                     |  |                       | 8,006   |                                   |  | (6,234  | ) |  | 1,772   |  
| |                          |  |                       |         |                                   |  |         |   |  |         |  

F  58

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

NOTE 15  Supplementary Financial Statement
Information (cont.):

|   |                            
|-- | ---------------------------
|H. | Operating Segments (cont.):

| |                                         |  |                       |         |                                   |  |         |  |  |         | 
| | --------------------------------------- |  | --------------------- | ------- | --------------------------------- |  | ------- |  |  | ------- | 
| |                                         |  | Software
  Services   |         | Proprietary
  Software
  Products |  | Total   | 
| |                                         |  |                       |         |                                   |  |         | 
| |                                         |  | (U.S. $ in thousands) |        
| |                                         |  |                       |        
| | Identifiable assets including goodwill: |  |                       |         |                                   |  |         |  |  |         | 
| |                                         |  |                       |         |                                   |  |         |  |  |         | 
| | 2007                                    |  |                       | 382,574 |                                   |  | 151,429 |  |  | 534,003 | 
| |                                         |  |                       |         |                                   |  |         |  |  |         | 
| | 2006                                    |  |                       | 248,032 |                                   |  | 123,724 |  |  | 371,756 | 
| |                                         |  |                       |         |                                   |  |         |  |  |         | 
| | Identifiable liabilities:               |  |                       |         |                                   |  |         |  |  |         | 
| |                                         |  |                       |         |                                   |  |         |  |  |         | 
| | 2007                                    |  |                       | 159,611 |                                   |  | 43,584  |  |  | 203,195 | 
| |                                         |  |                       |         |                                   |  |         |  |  |         | 
| | 2006                                    |  |                       | 132,540 |                                   |  | 45,127  |  |  | 177,667 | 
| |                                         |  |                       |         |                                   |  |         |  |  |         | 
| | Depreciation and amortization:          |  |                       |         |                                   |  |         |  |  |         | 
| |                                         |  |                       |         |                                   |  |         |  |  |         | 
| | 2007                                    |  |                       | 4,043   |                                   |  | 5,160   |  |  | 9,203   | 
| |                                         |  |                       |         |                                   |  |         |  |  |         | 
| | 2006                                    |  |                       | 2,561   |                                   |  | 1,582   |  |  | 4,143   | 
| |                                         |  |                       |         |                                   |  |         |  |  |         | 
| | 2005                                    |  |                       | 3,917   |                                   |  | 10,403  |  |  | 14,320  | 
| |                                         |  |                       |         |                                   |  |         |  |  |         | 
| | Investments in segment assets:          |  |                       |         |                                   |  |         |  |  |         | 
| |                                         |  |                       |         |                                   |  |         |  |  |         | 
| | 2007                                    |  |                       | 2,726   |                                   |  | 959     |  |  | 3,685   | 
| |                                         |  |                       |         |                                   |  |         |  |  |         | 
| | 2006                                    |  |                       | 2,577   |                                   |  | 1,325   |  |  | 3,902   | 
| |                                         |  |                       |         |                                   |  |         |  |  |         | 
| | 2005                                    |  |                       | 2,581   |                                   |  | 6,760   |  |  | 9,341   | 
| |                                         |  |                       |         |                                   |  |         |  |  |         | 

Reconciliation between the data on sales and
income of the operating segments and the data in the consolidated financial
statements:

|                                        |  |                       |         |      |  |         |   |  |         |  
|--------------------------------------- |  | --------------------- | ------- | ---- |  | ------- | - |  | ------- | -
|                                        |  | 2007                  |         | 2006 |  | 2005    |  
|                                        |  |                       |         |      |  |         |  
|                                        |  | (U.S. $ in thousands) |        
|                                        |  |                       |        
|Revenues:                               |  |                       |         |      |  |         |   |  |         |  
|Revenues as above                       |  |                       | 493,350 |      |  | 419,512 |   |  | 369,748 |  
|                                       
|Less inter-segment transactions         |  |                       | -       |      |  | (2,705  | ) |  | (3,907  | )
|                                        |  |                       |         |      |  |         |   |  |         |  
|Revenues as per statement of
operations |  |                       | 493,350 |      |  | 416,807 |   |  | 365,841 |  
|                                        |  |                       |         |      |  |         |   |  |         |  

F  59

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

NOTE 15  Supplementary Financial Statement
Information (cont.):

|   |                            
|-- | ---------------------------
|H. | Operating Segments (cont.):

| |                                                                                 |  |                       |         |      |  |         |  
| | ------------------------------------------------------------------------------- |  | --------------------- | ------- | ---- |  | ------- | -
| |                                                                                 |  | 2007                  |         | 2006 | 
| |                                                                                 |  |                       |         |      | 
| |                                                                                 |  | (U.S. $ in thousands) |        
| |                                                                                 |  |                       |        
| | Identifiable assets:                                                            |  |                       |         |      |  |         |  
| |                                                                                 |  |                       |         |      |  |         |  
| | Total assets of operating segments                                              |  |                       | 534,003 |      |  | 371,756 |  
| |                                                                                 |  |                       |         |      |  |         |  
| | Assets not identifiable to a particular
 segment                                |  |                       | 91,010  |      |  | 96,130  |  
| |                                                                                 |  |                       |         |      |  |         |  
| | Elimination of inter-segment assets and
 other                                  |  |                       | (12,430 | )    |  | (16,782 | )
| |                                                                                 |  |                       |         |      |  |         |  
| |                                                                                 |  |                       |         |      |  |         |  
| | Total assets from continuing operation as per
consolidated balance sheet        |  |                       | 612,583 |      |  | 451,104 |  
| |                                                                                 |  |                       |         |      |  |         |  
| |                                                                                 |  |                       |         |      |  |         |  
| | Identifiable liabilities:                                                       |  |                       |         |      |  |         |  
| |                                                                                 |  |                       |         |      |  |         |  
| | Total liabilities of operating segments                                         |  |                       | 203,195 |      |  | 177,667 |  
| |                                                                                 |  |                       |         |      |  |         |  
| | Liabilities not identifiable to a
 particular segment                           |  |                       | 225,798 |      |  | 167,828 |  
| |                                                                                 |  |                       |         |      |  |         |  
| | Elimination of inter-segment liabilities
 and other                             |  |                       | (15,260 | )    |  | (80     | )
| |                                                                                 |  |                       |         |      |  |         |  
| |                                                                                 |  |                       |         |      |  |         |  
| | Total liabilities from continuing
 operation as per consolidated balance
 sheet |  |                       | 413,733 |      |  | 345,415 |  
| |                                                                                 |  |                       |         |      |  |         |  

|   |                           |                                                
|-- | ------------------------- | -----------------------------------------------
|I. | Geographical Information:
|   |                          
|   | 1.                        | The Companys Long-Lived Assets are as follows:

| |                |  |                       |        |      |  |        | 
| | -------------- |  | --------------------- | ------ | ---- |  | ------ | 
| |                |  | December 31,          |       
| |                |  |                       |       
| |                |  | 2007                  |        | 2006 | 
| |                |  |                       |        |      | 
| |                |  | (U.S. $ in thousands) |       
| |                |  |                       |        |      | 
| | Israel         |  |                       | 29,305 |      |  | 28,564 | 
| |                |  |                       |        |      |  |        | 
| | United
 States |  |                       | 1,045  |      |  | 222    | 
| |                |  |                       |        |      |  |        | 
| | Other          |  |                       | 2,655  |      |  | 2,336  | 
| |                |  |                       |        |      |  |        | 
| | Total          |  |                       | 33,005 |      |  | 31,122 | 
| |                |  |                       |        |      |  |        | 

| |    |                                        
| | -- | ---------------------------------------
| | 2. | Revenues:                              
| |    |                                        
| |    | Revenues classified by geographic area:

| |                |  |                         |         |      |  |         |  |  |         | 
| | -------------- |  | ----------------------- | ------- | ---- |  | ------- |  |  | ------- | 
| |                |  | Year ended December 31, |        
| |                |  |                         |        
| |                |  | 2007                    |         | 2006 |  | 2005    | 
| |                |  |                         |         |      |  |         | 
| |                |  | (U.S. $ in thousands)   |        
| |                |  |                         |        
| |                |  |                         |         |      |  |         |  |  |         | 
| | Israel         |  |                         | 319,444 |      |  | 264,293 |  |  | 228,812 | 
| |                |  |                         |         |      |  |         |  |  |         | 
| | International: |  |                         |         |      |  |         |  |  |         | 
| |                |  |                         |         |      |  |         |  |  |         | 
| | United
 States |  |                         | 120,051 |      |  | 93,479  |  |  | 74,126  | 
| |                |  |                         |         |      |  |         |  |  |         | 
| | Other          |  |                         | 53,855  |      |  | 59,035  |  |  | 62,903  | 
| |                |  |                         |         |      |  |         |  |  |         | 
| | Total          |  |                         | 493,350 |      |  | 416,807 |  |  | 365,841 | 
| |                |  |                         |         |      |  |         |  |  |         | 

Classification
was based on the location of the customers.

F  60

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

NOTE 15  Supplementary Financial Statement
Information (cont.):

|   |                                                                                                                    
|-- | -------------------------------------------------------------------------------------------------------------------
|J. | Earnings Per Share:                                                                                                
|   |                                                                                                                    
|   | The
 following table presents the computation of basic and diluted net earnings
 per share of continuing operation:

| |                                                                                 |  |                         |        |      |  |        |   |  |        |  
| | ------------------------------------------------------------------------------- |  | ----------------------- | ------ | ---- |  | ------ | - |  | ------ | -
| |                                                                                 |  | Year ended December 31, |       
| |                                                                                 |  |                         |       
| |                                                                                 |  | 2007                    |        | 2006 |  | 2005   |  
| |                                                                                 |  |                         |        |      |  |        |  
| |                                                                                 |  | (U.S. $ in thousands)   |       
| |                                                                                 |  |                         |       
| |                                                                                 |  |                         |        |      |  |        |   |  |        |  
| | Amount for basic earnings (loss) per share
 -income available to shareholders   |  |                         | 12,461 |      |  | (492   | ) |  | 1,766  |  
| |                                                                                 |  |                         |        |      |  |        |   |  |        |  
| | Effect of dilutive securities of
 subsidiaries                                  |  |                         | (179   | )    |  | -      |   |  | -      |  
| |                                                                                 |  |                         |        |      |  |        |   |  |        |  
| | Amount for diluted earnings (loss) per
 share -income available to shareholders |  |                         | 12,282 |      |  | (492   | ) |  | 1,766  |  
| |                                                                                 |  |                         |        |      |  |        |   |  |        |  
| |                                                                                 |  |                         |        |      |  |        |   |  |        |  
| | Weighted average shares outstanding                                             |  |                         |        |      |  |        |   |  |        |  
| |                                                                                 |  |                         |        |      |  |        |   |  |        |  
| | Denominator for basic net earnings per
 share                                   |  |                         | 13,200 |      |  | 13,200 |   |  | 12,800 |  
| |                                                                                 |  |                         |        |      |  |        |   |  |        |  
| | Effect of dilutive securities                                                   |  |                         | -      |      |  | 98     |   |  | *      | )
| |                                                                                 |  |                         |        |      |  |        |   |  |        |  
| | Denominator for diluted net earnings per
 share                                 |  |                         | 13,200 |      |  | 13,298 |   |  | 12,800 |  
| |                                                                                 |  |                         |        |      |  |        |   |  |        |  
| |                                                                                 |  |                         |        |      |  |        |   |  |        |  
| | Basic net earnings (loss) per share of
 continuing operation                    |  |                         | 0.95   |      |  | (0.04  | ) |  | 0.14   |  
| |                                                                                 |  |                         |        |      |  |        |   |  |        |  
| |                                                                                 |  |                         |        |      |  |        |   |  |        |  
| | Diluted net earnings (loss) per share of
 continuing operation                  |  |                         | 0.93   |      |  | (0.04  | ) |  | 0.14   |  
| |                                                                                 |  |                         |        |      |  |        |   |  |        |  

| |                  |  |  |  |  |  |  |  |  |  | 
| | ---------------- |  |  |  |  |  |  |  |  |  | 
| | *) Anti dilutive |  |  |  |  |  |  |  |  |  | 

Note 16  Discontinued operations:

|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|-- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|A. | In December,
 2006, the Company spun-off Formula Vision. Therefore, Formula Vision is no
 longer a subsidiary of the Company. The spin-off was affected by way of
 distributing the 36,696,000 Formula Vision shares owned by Formula (then
 representing approximately 57% of the outstanding Formula Vision shares) to
 Formulas shareholders on a pro-rata basis.                                                                                                                                                                                                                                                                                                                                                           
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|   | Formula
 Visions shares were distributed at a ratio of 2.78 Formula Vision shares for
 each outstanding ordinary share held at the close of the trade on December
 14, 2006, the record date, subject to withholding taxes. Formula Vision met
 the definition of a component under SFAS 144. Accordingly, the results of
 operations of Formula Vision have been classified as discontinued operations
 in the statement of operations of prior periods results. The Company
 followed EITF No. 87-24 and allocated interest on debt that is to be assumed
 by the buyer and is connected with the discontinued operation. The expenses allocated for the years 2006 and 2005
 were $9 million and $15 million, respectively.

F  61

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 16  Discontinued operations (Cont.):

|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|-- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|B. | On June 20,
  2007, the company completed the sale of its entire shareholding in
  BluePhoenix. BluePhoenix
  met the definition of a component under SFAS 144. Accordingly, the results of
  operations of BluePhoenix have been classified as discontinued operations in
  the statement of operations and prior periods results have been reclassified
  accordingly. In addition comparative data of the assets and liabilities
  attributed to the discontinued operations have been reclassified in the
  balance sheet.                                                      
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|C. | In 2007,
  Magic disposed of two of its subsidiaries (AAOD and Magic Italy). Both
  subsidiaries met the definition of a component under SFAS 144. Accordingly,
  the results of operations of these subsidiaries and businesses and the gain
  resulting from the disposals have been classified as discontinued operations
  in the statement of operations and prior periods results have been
  reclassified accordingly. In addition, comparative data of the assets and
  liabilities attributed to the discontinued operations have been reclassified
  in the balance sheet.

F  62

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 16  Discontinued operations (Cont.):

|   |                                                                                                          
|-- | ---------------------------------------------------------------------------------------------------------
|D. | The following is the composition from discontinued operations
  (includes capital gain from realization):

|                                                        |  |                           |        |      |  |         |   |  |         |  
|------------------------------------------------------- |  | ------------------------- | ------ | ---- |  | ------- | - |  | ------- | -
|                                                        |  | Year Ended
  December 31, |       
|                                                        |  |                           |       
|                                                        |  | 2007                      |        | 2006 |  | 2005    |  
|                                                        |  |                           |        |      |  |         |  
|                                                        |  | (U.S. $ in
  thousands)   |       
|                                                        |  |                           |       
|                                                        |  |                           |        |      |  |         |   |  |         |  
|Revenues                                                |  |                           | 31,715 |      |  | 143,681 |   |  | 140,531 |  
|                                                        |  |                           |        |      |  |         |   |  |         |  
|Cost of revenues                                        |  |                           | 10,827 |      |  | 67,108  |   |  | 67,302  |  
|                                                        |  |                           |        |      |  |         |   |  |         |  
|Gross profit                                            |  |                           | 20,888 |      |  | 76,573  |   |  | 73,229  |  
|                                                        |  |                           |        |      |  |         |   |  |         |  
|Research and development costs, net                     |  |                           | 7,107  |      |  | 21,870  |   |  | 16,334  |  
|                                                        |  |                           |        |      |  |         |   |  |         |  
|Selling, general and administrative
  expenses          |  |                           | 9,137  |      |  | 49,728  |   |  | 46,366  |  
|                                                        |  |                           |        |      |  |         |   |  |         |  
|Restructuring and non-recurring costs                   |  |                           | -      |      |  | 499     |   |  | -       |  
|                                                        |  |                           |        |      |  |         |   |  |         |  
|Operating income                                        |  |                           | 4,644  |      |  | 4,476   |   |  | 10,529  |  
|                                                        |  |                           |        |      |  |         |   |  |         |  
|Financial expenses, net                                 |  |                           | (2,006 | )    |  | (7,821  | ) |  | (7,148  | )
|                                                        |  |                           |        |      |  |         |   |  |         |  
|Gain on realization of shareholdings, net
  *,**        |  |                           | 19,669 |      |  | 36,285  |   |  | 917     |  
|                                                        |  |                           |        |      |  |         |   |  |         |  
|Other expenses (income) ,net                            |  |                           | 9,281  |      |  | (14,698 | ) |  | (478    | )
|                                                        |  |                           |        |      |  |         |   |  |         |  
|Income before taxes on income                           |  |                           | 31,588 |      |  | 18,242  |   |  | 3,820   |  
|                                                        |  |                           |        |      |  |         |   |  |         |  
|Taxes on income (benefit)                               |  |                           | 136    |      |  | (530    | ) |  | 554     |  
|                                                        |  |                           |        |      |  |         |   |  |         |  
|                                                        |  |                           | 31,452 |      |  | 18,772  |   |  | 3,266   |  
|                                                        |  |                           |        |      |  |         |   |  |         |  
|Equity in gains (losses) of affiliated
  companies, net |  |                           | (857   | )    |  | 413     |   |  | (3,173  | )
|                                                        |  |                           |        |      |  |         |   |  |         |  
|Minority interest in earnings of
  subsidiaries, net    |  |                           | (5,797 | )    |  | (8,678  | ) |  | (1,682  | )
|                                                        |  |                           |        |      |  |         |   |  |         |  
|Net income (loss)                                       |  |                           | 24,798 |      |  | 10,507  |   |  | (1,589  | )
|                                                        |  |                           |        |      |  |         |   |  |         |  

| |    |                                                                                                                                                                                                                                                                                                                                                                                  
| | -- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | *  | In November
  2006, Formula Vision signed an agreement for effectively selling half of its
  holdings in Giga to an American investment company in consideration of $11.2
  million. Upon the completion of the transaction, Formula Vision held 24.58%
  of Gigas outstanding shares.                                                                                          
| |    |                                                                                                                                                                                                                                                                                                                                                                                  
| |    | The gain
  from realization totaled $10.6 million.                                                                                                                                                                                                                                                                                                                               
| |    |                                                                                                                                                                                                                                                                                                                                                                                  
| | ** | In December
  2006, Formula Vision engaged in an agreement with Karden Technologies Ltd.
  (henceforth: Karden), by which Karden acquires rights in a limited
  partnership held by Formula Vision to which Formula Visions investments in 5
  of its portfolio companies were transferred in consideration of $21 million.
  The gain from realization totaled $13.6 million.

F  63

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL
STATEMENTS

Note 16  Discontinued operations (Cont.):

|   |                                                                                                                         
|-- | ------------------------------------------------------------------------------------------------------------------------
|E. | The
  breakdown of assets and liabilities attributed to discontinued operations as
  of December 31, 2006 is as follows:

| |                                                     |  |                         |  |        
| | --------------------------------------------------- |  | ----------------------- |  | -------
| |                                                     |  | December
  31, 2006     | 
| |                                                     |  |                         | 
| |                                                     |  | (U.S. $ in
  thousands) | 
| |                                                     |  |                         | 
| | ASSETS                                              |  |                         |  |        
| |                                                     |  |                         |  |        
| | CURRENT
  ASSETS:                                   |  |                         |  |        
| |                                                     |  |                         |  |        
| | Cash and cash equivalents                           |  |                         |  | 12,854 
| |                                                     |  |                         |  |        
| | Short-term investments                              |  |                         |  | 1,107  
| |                                                     |  |                         |  |        
| | Trade receivables                                   |  |                         |  | 28,027 
| |                                                     |  |                         |  |        
| | Other current assets                                |  |                         |  | 4,718  
| |                                                     |  |                         |  |        
| |                                                     |  |                         |  | 46,706 
| |                                                     |  |                         |  |        
| |                                                     |  |                         |  |        
| | LONG-TERM
  INVESTMENTS, LOANS AND RECEIVABLES:     |  |                         |  |        
| |                                                     |  |                         |  |        
| | Long-term trade receivables                         |  |                         |  | 1,390  
| |                                                     |  |                         |  |        
| |                                                     |  |                         |  |        
| | SEVERANCE
  PAY FUND                                |  |                         |  | 4,052  
| |                                                     |  |                         |  |        
|
| | PROPERTY
  AND EQUIPMENT, NET                       |  |                         |  | 2,512  
| |                                                     |  |                         |  |        
|
| | GOODWILL                                            |  |                         |  | 55,042 
| |                                                     |  |                         |  |        
|
| |                                                     |  |                         |  |        
| | OTHER
  ASSETS, NET                                 |  |                         |  | 36,681 
| |                                                     |  |                         |  |        
|
| | TOTAL ASSETS FROM DISCONTINUED OPERATIONS,
NET      |  |                         |  | 146,383
| |                                                     |  |                         |  |        
| |                                                     |  |                         |  |        
| | LIABILITIES AND SHAREHOLDERS EQUITY                |  |                         |  |        
| |                                                     |  |                         |  |        
| | CURRENT
  LIABILITIES:                              |  |                         |  |        
| |                                                     |  |                         |  |        
| | Liabilities to banks and others                     |  |                         |  | 609    
| |                                                     |  |                         |  |        
| | Trade payables                                      |  |                         |  | 4,742  
| |                                                     |  |                         |  |        
| | Other accounts payable                              |  |                         |  | 17,797 
| |                                                     |  |                         |  |        
| | Debentures                                          |  |                         |  | 4,482  
| |                                                     |  |                         |  |        
| |                                                     |  |                         |  | 27,630 
| |                                                     |  |                         |  |        
| | LONG-TERM
  LIABILITIES:                            |  |                         |  |        
| |                                                     |  |                         |  |        
| | Debentures                                          |  |                         |  | 13,311 
| |                                                     |  |                         |  |        
| | Liabilities to banks and others                     |  |                         |  | 20,027 
| |                                                     |  |                         |  |        
| | Provisions for losses in formerly owned
investee    |  |                         |  | 1,971  
| |                                                     |  |                         |  |        
| | Accrued severance pay                               |  |                         |  | 5,769  
| |                                                     |  |                         |  |        
| |                                                     |  |                         |  | 41,078 
| |                                                     |  |                         |  |        
| |                                                     |  |                         |  |        
| | MINORITY
  INTEREST                                 |  |                         |  | 30,074 
| |                                                     |  |                         |  |        
| |                                                    
| | TOTAL LIABILITIES FROM DISCONTINUED OPERATIONS,
NET |  |                         |  | 98,782 
| |                                                     |  |                         |  |        
| |                                                     |  |                         |  |        

F  64

---

---

FORMULA SYSTEMS (1985) LTD.

(An Israeli Corporation)

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

NOTE 17  Transactions with Related Parties:

In March 2005,
Formula completed a private placement of 2,400,000 Formula shares for an
aggregate consideration of $33 million. The shares were issued to FIMGold LP,
an entity owned in equal shares by Dan Goldstein (the former chief executive
officer and chairman of the board of Formula) and FIMI Opportunity Fund (see
note 2G).

Note 18  Subsequent events:

|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|-- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|1. | In March
  2008, the Companys shareholders approved the adoption of Formulas 2008
  Employee and Office Holders Share Option Plan, referred to as the plan.
  Pursuant to the plan, the company may grant from time to time to the company
  and its subsidiaries employees and office holders (which are not Formulas
  controlling shareholders) options to purchase up to 400,000 ordinary shares
  of Formula. The plan is administered by the Companys board of directors or
  by an option committee to be appointed by the board. The plan provides that
  options may be granted, from time to time, to such grantees to be determined
  by the board or the option committee, at an exercise price and under such
  terms to be determined at their sole and absolute discretion. Options may be
  granted under the plan through January 2018.
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|   | Of the
  options available for grant under the plan, the company granted in March
  2008, options to purchase 198,000 ordinary shares to the Companys chief
  executive officer and director, each exercisable at an exercise price of
  $16.35 (NIS 60).                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|2. | In April
  2008, the Company distributed a cash dividend of approximately $0.76 per
  share to its shareholders. The aggregate amount distributed by the company
  was approximately $10 million.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              

F  65

---

---

| |                                                                                                                        
| | -----------------------------------------------------------------------------------------------------------------------
| | Kost Forer Gabbay & Kasierer3 Aminadav St.
Tel-Aviv 67067, Israel
Tel: 972 (3)6232525
Fax: 972 (3)5622555
www.ey.com/il

# REPORT OF INDEPENDENT
REGISTERED PUBLIC ACCOUNTING FIRM

# To the Board of
Directors and Shareholders of

# SAPIENS INTERNATIONAL
CORPORATION N.V.

We
have audited the accompanying consolidated balance sheets of Sapiens International
Corporation N.V. and its subsidiaries (the Company) as of December 31, 2006
and 2007 and the related consolidated statements of operations, changes in
shareholders equity and cash flows for each of the three years in the period ended
December 31, 2007. These financial statements are the responsibility of the Companys
management. Our responsibility is to express an opinion on these financial statements
based on our audits.

We
conducted our audits in accordance with the standards of the Public Company Accounting
Oversight Board (United States). Those standards require that we plan and perform the
audit to obtain reasonable assurance about whether the financial statements are free of
material misstatement. We were not engaged to perform an audit of the Companys
internal control over financial reporting. Our audits included consideration of internal
control over financial reporting as a basis for designing audit procedures that are
appropriate in the circumstances, but not for the purpose of expressing an opinion on the
effectiveness of the Companys internal control over financial reporting.
Accordingly, we express no such opinion. An audit also includes examining, on a test
basis, evidence supporting the amounts and disclosures in the financial statements,
assessing the accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our audits
provide a reasonable basis for our opinion.

In
our opinion, the consolidated financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Sapiens International
Corporation N.V. and its subsidiaries as of December 31, 2006 and 2007 and the
consolidated results of their operations and their cash flows for each of the three years
in the period ended December 31, 2007, in conformity with U.S. generally accepted
accounting principles.

|                 |                                 
|---------------- | --------------------------------
|
|
|
|
|                 |                                 
|Tel-Aviv, Israel | KOST FORER GABBAY & KASIERER    
|June 25, 2008    | A Member of Ernst & Young Global



---

---

(ERNST & YOUNG LOGO)

REPORT OF INDEPENDENT REGISTERED
PUBLIC ACCOUNTING FIRM

To the Shareholders and the
Board of Directors of

MAGIC SOFTWARE ENTERPRISES LTD.

We
have audited the accompanying consolidated balance sheets of Magic Software
Enterprises Ltd. (the Company) and its subsidiaries as of December 31, 2006
and 2007, and the related consolidated statements of operations, changes in
shareholders equity and cash flows for each of the three years in the period
ended December 31, 2007. These financial statements are the responsibility of
Companys management. Our responsibility is to express an opinion on these
financial statements based on our audits. We did not audit the financial statements of
certain subsidiaries, which statements reflect total assets of 18% and 19% as
of December
31, 2006 and 2007, respectively, and total revenues of 18%, 33% and 29% for
each of the three years in the period ended December 31,  2007 of the related consolidated totals.
Those statements were audited by other auditors whose reports have been furnished to us,
and our opinion, insofar as it relates to the amounts included for those
subsidiaries, is based solely on the reports of the other auditors.

We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we
plan and perform the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. We were not engaged to perform an audit of the
Companys internal control over financial reporting. Our audits included
consideration of internal control over financial reporting as a basis for
designing audit procedures that are appropriate in the circumstances, but not
for the purpose of expressing an opinion on the effectiveness of the Companys
internal control
over financial reporting. Accordingly, we express no such opinion. An audit
also includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement
presentation. We believe that our audits and the reports of other auditors
provide a reasonable basis for our opinion.

In
our opinion, based on our audits and the reports of the other auditors, the
consolidated financial statements referred to above present fairly, in all
material respects, the consolidated financial position of the Company and its
subsidiaries at December 31, 2006 and 2007, and the related consolidated
results of their operations and their cash flows for each of the three years in the
period ended December 31, 2007, in conformity with U.S. generally accepted accounting
principles.

As
discussed in Note 2 to the consolidated financial statements, in 2007 the
Company adopted FASB interpretation No. 48 Accounting for Uncertainty in
Income Taxes  An Interpretation of FASB No. 109, effective January
1, 2007. As discussed in Note 2 to the consolidated financial statements, the
Company adopted the provision of Statement of Financial Accounting Standard No. 123(R),
Share-Based Payment.

As
discussed in Note 2 to the consolidated financial statements, on December 31,
2007, the Company initially applied the provisions of Staff Accounting Bulletin
No. 108, Considering the Effects of Prior Year Misstatements when
Quantifying Misstatements in Current Year Financial Statements, and recorded a
cumulative effect adjustment to beginning accumulated deficit at January 1, 2006 and
adjustments to property and  equipment as of December 31, 2005.

|                   |  |                                 
|------------------ |  | --------------------------------
|                   |  | -s- KOST FORER GABBAY & KASIERER
|Tel-Aviv,
  Israel |  | KOST  FORER GABBAY & KASIERER   
|May 15, 2008       |  | A Member of Ernst & Young Global



---

---

|                                       |                                            
|-------------------------------------- | -------------------------------------------
|(LEVY COHEN & CO. LOGO)               
|R e g i s t e r e d    A u d i t o r s
|                                      
|37 Broadhurst Gardens, London NW6 3QT  | Tel: 020 -
  7624 2251 Fax: 020 - 7372 2328
|                                       | E - mail:
  lc@levy-cohen.co.uk            
|                                      

To the Board of Directors and Shareholders of
HERMES
LOGISTICS TECHNOLOGIES LIMITED

We
have audited the accompanying balance sheet of HERMES LOGISTICS TECHNOLOGIES LIMITED. (the
Company) as of December 31, 2007 and 2006, and the related statements
operations, changes
in shareholders equity and cash flows for each of the two years in the period
ended December
31, 2007. These financial statements are the responsibility of the Companys
management. Our responsibility is to express an opinion on these financial
statements based on our audit.

We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. We were not engaged to perform an
audit of the Companys internal control over financial reporting. Our audits included consideration of internal control
over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the
purpose of expressing an opinion on
the effectiveness of the Companys internal control over financial reporting.
Accordingly, we express no such
opinion. An audit also includes examining, on a test basis, evidence supporting
the amounts and disclosures in the
financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the
overall financial statement presentation. We believe that our audits and the reports of other auditors
provide a reasonable basis for our opinion.

In our
opinion, based on our audits and the reports of the other auditors, the
financial statements referred to above present fairly, in all material
respects, the financial position of the Company and at December 31, 2006 and
2007, and the related statements operations, changes in shareholders equity for each of the
two years in the period ended December 31, 2007, in conformity with U.S. generally accepted
accounting principles.

LEVY COHEN & CO

-s- LEVY COHEN & CO


Registered Auditors


January
12, 2008



---

---

|                                        |                                            
|--------------------------------------- | -------------------------------------------
|(LEVY COHEN & CO. LOGO)                
|R e g i s t e r e d   A u d i t o r s  
|                                       
|37 Broadhurst Gardens, London NW6
  3QT | Tel: 020 -
  7624 2251 Fax: 020 - 7372 2328
|                                        | E - mail:
  lc@levy-cohen.co.uk            
|                                       

To the Board of Directors and Shareholders of 
MAGIC
SOFTWARE ENTERPRISES (UK) LIMITED

We
have audited the accompanying balance sheet of MAGIC SOFTWARE ENTERPRISES (UK) LIMITED. (the Company)
as of December 31, 2007 and 2006, and the related statements operations, changes in shareholders
equity and cash flows for each of the two years in the period ended December 31, 2007.
These financial statements are the responsibility of the Companys management.
Our responsibility is to express an opinion on these financial statements based
on our audit.

We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we
plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. We were not engaged to
perform an audit of the Companys internal control over financial reporting.
Our audits included
consideration of internal control over financial reporting as a basis for
designing audit procedures that are appropriate
in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Companys internal
control over financial reporting. Accordingly, we express no such opinion. An audit also includes
examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements,
assessing the accounting principles used and significant estimates made by management, and evaluating the
overall financial statement presentation. We believe that our audits and the reports of other auditors
provide a reasonable basis for our opinion.

In our
opinion, based on our audits and the reports of the other auditors, the
financial statements referred to above present fairly, in all material
respects, the financial position of the Company and at December 31, 2006 and
2007, and the related statements operations, changes in shareholders equity for each of the
two years in the period ended December 31, 2007, in conformity with U.S. generally accepted
accounting principles.

LEVY COHEN & CO

-s- LEVY COHEN & CO


Registered
Auditors


January
12, 2008





---

---

REPORT
OF INDEPENDENT AUDITORS

To
the Board of Directors and Shareholders of
Magic (Onyx) Magyarország Szoftverház Kft.

We
have audited the accompanying balance sheet of Magic (Onyx) Magyarország
Szoftverház Kft. (the Company) as of December 31, 2007 and 2006, and the
related statements operations, changes in shareholders equity and cash flows
for each of the two years in the period ended December 31, 2007. These
financial statements are the responsibility of the Companys management. Our
responsibility is to express an opinion on these financial statements based on
our audit.

We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we
plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. We were not engaged to
perform an audit of the Companys internal control over financial reporting.
Our audits included consideration of internal control over financial reporting
as a basis for designing audit procedures that are appropriate in the
circumstances, but not for the purpose of expressing an opinion on the
effectiveness of the Companys internal control over financial reporting.
Accordingly, we express no such opinion. An audit also includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates
made by management and evaluating the overall financial statement presentation.
We believe the our audits and the reports of other auditors provide a
reasonable basis for our opinion.

In our
opinion, based on our audits and the reports of the other auditors, the financial
statements referred to above present fairly, in all material respects, the
consolidated financial position of the Company and at December 31, 2006 and
2007, and the related statements operations, changes in shareholders equity
and cash flows for each of the two years in the period ended December 31, 2007, in
 conformity with U.S. generally accepted accounting priciples.

|                     |            
|-------------------- | -----------
|Budapest May 9, 2008 |            
|                     | (SIGNATURE)



---

---

January
31, 2008

Kost
Forer Gabbay & Kasierer
Certified Public Accountants 
3 Aminadav St.
Tel-Aviv, ISRAEL

Gentlemen,

| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | Re: Magic
  Software Japan K.K. (hereinafter - the Company)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| | In
  connection with our audit of the financial statements of the Company for the
  year ended December 31, 2007, a
  subsidiary of Magic Software Enterprises Ltd. whose financial statements are
  audited by you, we confirm that:

  We
  are independent with respect to the Company and Magic Software Enterprises
  Ltd. and other affiliates, under
  the standards of the Public Company Accounting Oversight Board (United
  States) and the Securities and Exchange
  Commission.

  We
  are aware that the financial statements of the Company, which we have
  audited, are to be included in the consolidated financial statements of Magic
  Software Enterprises Ltd. on which Ernst & Young will report and that your report will rely on and refer to our
  report.

  We
  are familiar with U.S. generally accepted accounting principles and with the
  standards of the Public Company Accounting Oversight Board (United
  States) and we conducted our audit and reported in accordance with them.

  We
  have knowledge of the relevant financial reporting requirements for the
  statements and schedules to be filed with the Securities and Exchange
  Commission and the financial statements of the Company comply with them in all material respects.

  We
  will make a review and inform you of matters affecting the elimination of
  intercompany transactions and
  accounts based upon related party information that you will furnish us.

  We
  will provide you, upon request, access to audit documentation supporting the
  work performed.

  We
  will have complete and final documentation to support our report no more than
  45 days after the report release date or the completion of our work. If we
  have any issues meeting this requirement, we will bring the issues to your attention as soon as
  they are known.

| |                          
| | -------------------------
| | Very truly yours,        
|
| | -s- KDA Audit Corporation
| |                          
| | KDA
  Audit Corporation  

---

---

|                                                                              |  | 
|----------------------------------------------------------------------------- |  | 
|(STUDIO NASSINI & ASSOCIATI LOGO)
DOTTORI
  COMMERCIALISTI                   
|Damiano
  Nassini, Giovanni Nulli, Federico Pozzi, Alessandro Masetti Zannini
|                                                                              |  | 

Brescia, 14st
February 2008


REPORT OF INDEPENDENT AUDITORS

To the Board of Directors and
Shareholders of 
MAGIC SOFTWARE ENTERPRISES ITALY SRL

We
have audited the accompanying balance sheet of MSE Italy Srl. (the Company) as of
December 31, 2007 and 2006, and the related statements operations, changes in
shareholders equity and cash flows for each of the two years in the period
ended December 31, 2007. These financial statements are the responsibility of
the Companys management. Our responsibility is
to express an opinion
on these financial statements based on our audit.

We
conducted our audits in accordance with the standards of the Public Company Accounting
Oversight Board (United States). Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. We were not engaged to perform an audit of the
Companys internal control over financial reporting. Our audits included
consideration of internal control over financial reporting as a basis for designing audit
procedures that are appropriate in the circumstances, but not for the purpose
of expressing an opinion on the effectiveness of the Companys internal control over
financial reporting. Accordingly, we express no such opinion. An audit also
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles used and
significant estimates made by management, and evaluating the overall financial
statement presentation. We believe that our audits and the reports of other auditors provide a reasonable basis
for our opinion.

In
our opinion, based on our audits and the reports of the other auditors, the
financial statements referred to above present fairly, in all material
respects, the consolidated financial position of the Company and at December 31, 2006
and 2007,
and the related statements operations, changes in shareholders equity and cash flows for each of
the two years in the period ended December 31, 2007, in conformity with U.S. generally accepted
accounting principles.

|                  
|------------------
|Yours Truly       
|                  
|                  
|Federico Pozzi    
|-s- Federico Pozzi

|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   |                         | 
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ----------------------- | 
|25125
  Brescia, Italy Via Brozzoni, 9 Tel. +39.30.223262 r.a. Fax +39.30.224054
  E-mail: info@studionassini.it                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|web
  site: http://www.studionassini.it                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|(TIAG LOGO)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|ARGENTINA,
AUSTRALIA (NEW SOUTH WALES, VICTORIA), AUSTRIA, BELGIUM, CANADA (BRITHIS
COLUMBIA, ONTARIO, QUEBEC), CHINA, CYPRUS, DENMARK, EGYPT, EL SALVADOR, ENGLAND, FINLAND, FRANCE,
GERMANY, GUATEMALA, HONG KONG, INDIA, INDONESIA, IRELAND, ITALY, JAPAN,
JORDAN, KENYA, KOREA, KUWAIT, LEBANON, LITHUMNIA, LUXEMBOURG, MALAYSIA, MALTA, MAURITIUS, MEXICO,
NETHERLANDS, NORTHERN IRELAND, OMAN,
PAKISTAN, PALESTINE, PHILIPPINES, POLAND, PORTUGAL, RUSSIA, SAUDI ARABIA, SCOTLAND,
SINGAPORE, SOUTH AFRICA, SPAIN, SWITZERLAND, THAILAND, TURKEY, UNITED ARAB EMIRATES, USA (ALABAMA, ARIZONA, CALIFORNIA, ILLINOIS, NEW
JERSEY, NEW YORK, NORTH CAROLINA, OKLAHOMA,
PENNSYLVANIA, TEXAS, UTAH, WASHINGTON), VIETNAM, YEMEN.
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   | C.F.e P.IVA 01957960170 | 

---

---

(MAGIC BENELUX B.V. LOGO)

Magic Benelux B.V.

Auditors report

Report on the financial statements

We
have audited the accompanying financial statements for the year ended December
31, 2007 of Magic Benelux B.V., Houten, which comprise the balance sheet as at
December 31, 2007 the profit and loss account for the year then ended and the
notes.

Managements responsibility

Management
is responsible for the preparation and fair presentation of the financial
statements and for the preparation of the management board report, both in conformity
with U.S. generally accepted accounting principles. This responsibility includes:
designing, implementing and maintaining internal control relevant to the preparation and fair
presentation of the financial statements that are free from material misstatement,
whether due to fraud or error; selecting and applying appropriate accounting policies; and making
accounting estimates that are reasonable in the circumstances.

Auditors responsibility

Our
responsibility is to express an opinion on the financial statements based on
our audit. We conducted our audit in accordance with Dutch law. This law
requires that we comply with ethical requirements and plan and perform the
audit to obtain reasonable assurance whether the financial statements are free
from material
misstatement.

An
audit involves performing procedures to obtain audit evidence about the amounts
and disclosures in the financial statements. The procedures selected
depend on the auditors judgment, including the assessment of the risks of
material misstatement of the financial statements, whether due to fraud or
error. In making those risk assessments, the auditor considers internal control
relevant to the entitys preparation and fair presentation of the financial
statements in order to design audit procedures that are appropriate in the
circumstances, but not for the purpose of expressing an opinion on the
effectiveness of the entitys internal control. An audit also includes
evaluating the appropriateness of accounting policies used and the reasonableness
of accounting estimates made by management, as well as evaluating the overall presentation of
the financial statements.

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

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(MAGIC BENELUX B.V. LOGO)

Magic Benelux B.V.

Opinion

In our
opinion, the financial statements give a true and fair view of the financial
position of Magic Benelux B.V. as at December 31, 2007, and of its result
for the year then ended in conformity with U.S. generally accepted accounting principles.

Dordrecht, February 5, 2008

Verstegen accountants en adviseurs

-s- Drs. L.K. Hoogendoorn RA MGA


Drs. L.K. Hoogendoorn RA MGA




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# SIGNATURES

The registrant hereby certifies that
it meets all of the requirements for filing on Form 20-F and that it has duly caused and
authorized the undersigned to sign this annual report on its behalf.

|                            |              
|--------------------------- | -------------
|
|
|
|
|FORMULA SYSTEMS (1985) LTD. |              
|                           
|                           
|By: /s/ Guy Bernstein       | June 30, 2008
|Guy Bernstein               | Date         
|Chief Executive Officer    



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# EXHIBIT INDEX

Exhibit No.

|1.1 |  | Memorandum
of Association (1)
|--- |  | -----------------------------

|1.2 |  | Articles
of Association as amended on December 28, 2005 (2)
|--- |  | -----------------------------------------------------------

|4.1 |  | Form
of Letter of Indemnification, dated December 28, 2005 (2)
|--- |  | --------------------------------------------------------------

|4.2 |  | International
Securities Purchase Agreement dated June 15, 2007 between the Registrant and
                       each of the purchasers identified on the signature pages of the
agreement (3)
|--- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|8 |  | List
of Subsidiaries
|- |  | --------------------

|12.1 |  | Certification
of the Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act
                       of 2002
|---- |  | -----------------------------------------------------------------------------------------------------------------------------

|12.2 |  | Certification
of the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act
                       of 2002
|---- |  | -----------------------------------------------------------------------------------------------------------------------------

|13.1 |  | Certification
of the Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley
                       Act of 2002
|---- |  | -----------------------------------------------------------------------------------------------------------------------------

|13.2 |  | Certification
of the Chief Financial Officer pursuant to Section. 906 of the Sarbanes-Oxley
                       Act of 2002
|---- |  | ------------------------------------------------------------------------------------------------------------------------------

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(1)
          Incorporated by reference to the Registration Statement on Form F-1 (File No.
          333-8858).(2)
          Incorporated by reference to the Annual Report on Form 20-F filed with the
          Securities and Exchange Commission on June 29, 2006.(3)
          Incorporated by reference to the Annual Report on Form 20-F filed with the
          Securities and Exchange Commission on June 29, 2007.



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