---

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|UNITED
STATES 
SECURITIES AND EXCHANGE COMMISSION
|-------------------------------------------------

|Washington,
D.C. 20549
|----------------------

|
|

|Form
20-F
|---------

|
|

| | o | REGISTRATION
STATEMENT PURSUANT TO SECTION 12(b) or (g)
                                                OF THE SECURITIES EXCHANGE ACT OF 1934
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------

OR

| | x | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF 
THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2004
| | - | ---------------------------------------------------------------------------------------------------------------------------------

OR

| | o | TRANSITION
REPORT PURSUANT TO SECTION 13 or 15(d) OF 
THE SECURITIES EXCHANGE ACT OF 1934 
for the transition period from ________ to _________
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------

|
|

|Commission File
Number 0-030668
|-------------------------------

|
|

|NOVA
MEASURING INSTRUMENTS LTD.(Exact name of Registrant as specified in its charter)
|-------------------------------------------------------------------------------------

|                                                |                                                
|----------------------------------------------- | -----------------------------------------------
|
|
|
|
|Nova Measuring Instruments Ltd.                 | Israel                                         
|(Translation of Registrant's name into English) | (Jurisdiction of incorporation or organization)

|
|

|Weizmann
Science Park, Building 22, 2nd Floor, Ness-Ziona 76100, Israel 
(Address of principal
executive offices)
|-----------------------------------------------------------------------------------------------------------------

|
|

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
|None                | None                                     

Securities registered or to be registered pursuant to Section 12(g) of the Act: 
Ordinary Shares, nominal value NIS 0.01 per share

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

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

15,308,544
Ordinary Shares, NIS 0.01 nominal (par) value per share, as of December 31, 2004

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

Indicate
by check mark which financial statement item the registrant has elected to follow:

# Item 17 o Item 18 x



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# TABLE OF CONTENTS

Page

|                                                                                  |                                                                                      |   
|--------------------------------------------------------------------------------- | ------------------------------------------------------------------------------------ | --
|
|
|
|
|Introduction                                                                      | 1                                                                                   
|                                                                                 
|Our Functional Currency                                                           | 1                                                                                   
|                                                                                 
|Cautionary Statement Regarding Forward-Looking Statements                         | 1                                                                                   
|                                                                                 
|PART I                                                                            | 2                                                                                   
|                                                                                 
|                                                                                  | Item 1. Identity of Directors, Senior Management and Advisors                        | 2 
|                                                                                  | Item 2. Offer Statistics and Expected Timetable                                      | 2 
|                                                                                  | Item 3. Key Information                                                              | 2 
|                                                                                  | Item 4. Information on the Company                                                   | 10
|                                                                                  | Item 5. Operating and Financial Review and Prospects                                 | 28
|                                                                                  | Item 6. Directors, Senior Management and Employees                                   | 39
|                                                                                  | Item 7. Major Shareholder and Related Party Transactions                             | 46
|                                                                                  | Item 8. Financial Information                                                        | 49
|                                                                                  | Item 9. The Offer and Listing                                                        | 50
|                                                                                  | Item 10. Additional Information                                                      | 51
|                                                                                  | Item 11. Quantitative and Qualitative Disclosures About Market Risk                  | 63
|                                                                                  | Item 12. Description of Securities Other than Equity Securities                      | 63
|                                                                                 
|PART II                                                                           | 64                                                                                  
|                                                                                 
|                                                                                  | Item 13. Defaults, Dividend Arrearages and Delinquencies                             | 64
|                                                                                  | Item 14. Material Modification to the Rights of Security Holders and Use of Proceeds | 64
|                                                                                 
|Item 15.  Evaluation of disclosure controls and procedures                        | 64                                                                                  
|                                                                                 
|Item 16.  Reserved                                                                | 64                                                                                  
|                                                                                 
|Item 16A.  Audit Committee Financial Expert                                       | 64                                                                                  
|                                                                                 
|Item 16B.  Code of Ethics                                                         | 64                                                                                  
|                                                                                 
|Item 16C.  Principal Accountant Fees and Services                                 | 64                                                                                  
|                                                                                 
|Item 16D.  Exemptions from the Listing Standards for Audit Committees             | 65                                                                                  
|                                                                                 
|Item 16E.  Purchases of Equity Securities by the Issuer and Affiliates Purchasers | 65                                                                                  
|                                                                                 
|PART III                                                                          | 65                                                                                  
|                                                                                 
|                                                                                  | Item 17. Financial Statements                                                        | 65
|                                                                                  | Item 18. Financial Statements                                                        | 65
|                                                                                  | Item 19. Exhibits                                                                    | 66
|                                                                                 
|Signatures                                                                        | 67                                                                                  
|                                                                                 
|Financial Statements                                                              | F-1                                                                                 

- i -

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# Introduction

In
this Annual Report, the "Company,"  "Nova," "we" or "our" refers to Nova Measuring
 Instruments Ltd. and its consolidated subsidiaries, when the context requires.

The
consolidated financial statements and selected consolidated financial data as of December
31, 2000, 2001, 2002, 2003 and 2004 and for each of the years in the five-year period
ended December 31, 2004 (the Consolidated Financial Statements), included in
this Annual Report have been prepared in accordance with accounting principles generally
accepted in the United States of America (U.S. GAAP).

# Our Functional Currency

Unless
 otherwise  indicated,  all  amounts  herein  are  expressed  in United  States  dollars
 ("U.S. dollars," "dollars," "USD," "US$" or "$").

The
currency of the primary economic environment in which we operate is the U.S. dollar, since
substantially all our revenues to date have been denominated in U.S. dollars and over 50%
of our expenses are in U.S. dollars or in New Israeli Shekels linked to the dollar.
Transactions and balances denominated in dollars are presented at their original amounts.
Non-dollar transactions and balances have been re-measured into dollars as required by the
principles in Statement No. 52 of the Financial Accounting Standards Board (FASB) of the
United States of America. All exchange gains and losses from such re-measurement are
included in the net financial income when they arise.

# Cautionary Statement
Regarding Forward-Looking Statements

Certain
information contained herein, which does not relate to historical financial information,
may be deemed to constitute forward-looking statements within the meaning of the Private
Securities Litigation Reform Act of 1995. The words or phrases will likely result,are
expected to, will continue, is anticipated,estimate, project, believe, plan,
or similar expressions identify forward looking statements. Such statements
are subject to certain risks and uncertainties that could cause actual results to differ
materially from historical results and those presently anticipated or projected. We wish
to caution readers not to place undue reliance on any such forward-looking statements,
which speak only as of the date made. We undertake no obligation to release publicly any
revisions to these forwardlooking statements to reflect events or circumstances
after the date hereof or to reflect the occurrence of unanticipated events. Among the
factors that could cause our actual results in the future to differ materially from any
opinions or statements expressed with respect to future periods are competitive industry
conditions and the ability to forecast the needs of the semiconductor industry with
respect to the very cyclical nature of the industry and the very fast pace of technology
evolutions. Various other factors that could cause our actual results to differ
materially are set forth in Risk Factors starting on page 3 and elsewhere
herein.

- 1 -

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# PART I

# Item 1. Identity of
Directors, Senior Management and Advisors

Not
applicable.

# Item 2. Offer Statistics
and Expected Timetable

Not
applicable.

# Item 3. Key Information

Selected
Financial Data

The
following selected consolidated financial data as of December 31, 2003 and 2004 and for
the years ended December 31, 2002, 2003 and 2004 have been derived from our audited
Consolidated Financial Statements included with this report. These financial statements
have been prepared in accordance with U.S. GAAP, and audited by Brightman Almagor &
Co., an independent registered public accounting firm and a member firm of Deloitte Touche
Tohmatsu (Brightman Almagor & Co). The consolidated selected financial
data as of December 31, 2000, 2001 and 2002 and for the years ended December 31, 2000 and
2001 have been derived from other consolidated financial statements not included in this
Form 20-F that were also prepared in accordance with U.S. GAAP and audited by Brightman
Almagor & Co. The selected consolidated financial data set forth below should be read
in conjunction with and are qualified by reference to Item 5, Operating and
Financial Review and Prospects and the Consolidated Financial Statements and notes
thereto and other financial information included elsewhere in this Form 20-F.

# Summary of
Consolidated Financial Data

|                                           | Year ended December 31,
|------------------------------------------ | -----------------------
|
|
|
|
|Consolidated Statement of Operations Data: |                        
|Revenues                                   |                        
|Cost of revenues                           |                        
|                                           |                        
|Gross profit                               |                        
|                                           |                        
|Operating expenses:                        |                        
|Research and development expenses, net     |                        
|Sales and marketing expenses               |                        
|General and administrative expenses        |                        
|Other operating expenses (income)          |                        
|                                           |                        
|Total operating expenses                   |                        
|                                           |                        
|Operating Profit  (loss)                   |                        
|Financing income, net                      |                        
|Other expenses                             |                        
|                                           |                        
|Net income (loss)                          |                        
|                                           |                        
|                                           |                        
|Earnings (loss) per share:                 |                        
|Basic earnings (loss) per share            |                        
|Diluted earnings per share                 |                        
|Shares used in calculation of basic        |                        
|earnings (loss) per share                  |                        
|Shares used in calculation of              |                        
|diluted earnings per share                 |                        

- 2 -

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|                                 | December 31,
|-------------------------------- | ------------
|
|
|
|
|Consolidated Balance Sheet Data: |             
|Working capital                  |             
|Total assets                     |             
|Shareholders' equity             |             
|Dividends declared               |             

# Risk Factors

# Risks Related to Our
Business and Our Industry

Because substantially all our
current sales are dependent on a single product line, factors that adversely affect the
pricing and demand for this product line could substantially reduce our sales.

Although
we have expanded our product offering, we are still currently dependent on a single
integrated process control product line targeting the chemical mechanical polishing
market. We expect revenues from this product line to continue to account for a substantial
portion of our revenues for at least the next year. As a result, factors adversely
affecting the pricing of or demand for integrated process controls for the chemical
mechanical polishing equipment field, such as competition and technological change, would
substantially reduce our sales.

The markets we target are highly
cyclical and it is difficult to predict the length and strength of any downturn or
expansion period.

The
semiconductor capital equipment market and industries are highly cyclical and in 2004
experienced significant expansion. During the first quarter of 2005, however, the market
and industries changed direction and exhibited the first signs of a downturn. Although we
rely on market research companies, we cannot predict the length and strength of this
downturn or any other downturn or expansion. We have only a limited ability to reduce
expenses during any industry downturn because of the need for significant ongoing
expenditures related to engineering, research and development and worldwide customer
service and support operations. Accordingly, we incurred losses in the first quarter of
2005 during this current downturn and we may incur losses during future downturns.

Our inability to reduce spending
during a protracted slowdown in the semiconductor industry could reduce our prospects of
sustaining profitability.

Historically,
we have derived all of our revenues, and we expect to continue to derive all of our
revenues, from sales of our products and related services to the semiconductor industry.
Our business depends in large part upon capital expenditures by semiconductor
manufacturers, which in turn depend upon the current and anticipated demand for
semiconductors. The semiconductor industry has experienced severe and protracted cyclical
downturns, characterized by slowing product demand, inventory surpluses, accelerated
erosion of average selling prices and production overcapacity. These downturns, including
the current one, have materially reduced demand for the type of capital equipment and
process technology that we offer and our sales and revenues have declined. In addition,
our ability to reduce expenses in response to any downturn or slowdown in the rate of
capital investment by manufacturers in these industries may be limited because of:

| |  | our
continuing need to invest in research and development,
| | - | ----------------------------------------------------------

| |  | our
capital equipment requirements, and
| | - | ---------------------------------------

| |  | our
extensive ongoing customer service and support requirements worldwide.
| | - | --------------------------------------------------------------------------

- 3 -

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If we do not respond effectively
and on a timely basis to rapid technological change, our ability to attract and retain
customers could be diminished, which would hurt our sales and ability to remain
competitive.

The
semiconductor manufacturing industry is characterized by rapid technological change, new
product introductions and enhancements and evolving industry standards. Our ability to
remain competitive and generate sales revenue will depend in part upon our ability to
develop new and enhanced systems at competitive prices in a timely and cost-effective
manner and to accurately predict technology transitions. Because new product development
commitments must be made well in advance of sales, new product decisions must anticipate
the future demand for products. If we fail to correctly anticipate future demand for
products, our sales and competitive position would suffer. In addition, the development of
new measurement technologies, new product introductions or enhancements by our competitors
could cause a decline in sales or loss of market acceptance of our existing products.

We may not be able to develop or
market new products, which could slow or prevent our growth.

Our
business plan requires the introduction of several new product lines. Our plans to
introduce process control products for photolithography, etch and other processes will
require development of new capabilities. Some of these projects are in the early stages of
development, and we cannot be certain that we will be able to develop or bring to market
these new product lines or, if we do, that these products will be well received or
profitable. If we are unable to successfully introduce new product lines, our future
growth could be adversely affected.

New product lines that we may
introduce in the future may contain defects, which will require us to allocate time and
financial resources to correct.

Our
new product lines may contain defects when first introduced. If there are defects, we will
need to divert the attention of our personnel from our product development efforts to
address the detection and correction of the defects. In the past, no liability claims have
been filed against us for damages related to product defects, and we have not experienced
any material delays as a result of product defects. However, we cannot assure you that we
will not incur these costs or liabilities or experience these lags or delays in the
future. Moreover, the occurrence of such defects, whether caused by our products or the
products of another vendor, may result in significant customer relations problems and
injury to our reputation and may impair the market acceptance of our products.

# We have had a history of
losses and may incur future losses.

Since
our inception in 1993, we have incurred net losses in every year other than in 1998, 2000,
and 2004 and may incur a net loss in 2005 or in future years. As of December 31, 2004, we
had an accumulated deficit of $38.9 million and incurred a loss of $4.2 million in the
first quarter of 2005 due to a significant reduction in sales volumes. We plan to continue
similar levels of our aggregate product development, sales and marketing and
administrative expenses over the next 12 months. Accordingly, to achieve profitability in
2005, we will need to significantly increase our sales. In the future, our sales may not
grow and we may not achieve profitability.

Because we have a limited
operating history with one product line, our historical results may not be indicative of
our future results, and it is difficult to evaluate our business and prospects.

Our
first system for chemical mechanical polishing applications was developed and introduced
to the market in October 1995. Because this is the only product line with which we have
significant manufacturing and marketing experience and because of our focus on the
development and introduction of new products, our past operating results may not be
indicative of our future results. Companies in an early stage of product development
frequently have higher risks and encounter unexpected expenses and difficulties. These
risks, expenses and difficulties apply particularly to us because the semiconductor
manufacturing business is a rapidly evolving market characterized by technological
advances. The uncertainty of our future performance increases the risk that the value of
your investment will decline.

- 4 -

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Our dependence on a single
manufacturing facility magnifies the risk of an interruption in our production
capabilities.

We have only one manufacturing
facility, which is located in Ness-Ziona, Israel. Any event affecting this site, including
natural disaster, labor stoppages or armed conflict, may disrupt or indefinitely
discontinue our manufacturing capabilities and could significantly impair our ability to
fulfill orders and generate revenues, thus negatively impacting our business.

We experience quarterly
fluctuations in our operating results, which may adversely impact our stock price.

Our
quarterly operating results have fluctuated significantly in the past, and we expect this
trend to continue. A principal reason is that we derive a substantial portion of our
revenue from the sale of a relatively small number of systems to a relatively small number
of customers. As a result, our revenues and results of operations for any given quarter
may decrease due to factors relating to the timing of orders by, and shipments of systems
to, significant customers. Furthermore, our quarterly results are affected by the highly
cyclical nature of the semiconductor capital equipment market and industries.

We
also have a limited ability to predict revenues for future quarterly periods and face
risks of revenue shortfalls due to our limited sales backlog in current periods. If the
number of systems we actually ship, and thus the amount of revenues we are able to record
in any particular quarter, is below our expectations, the adverse effect may be magnified
by our inability to adjust spending quickly enough to compensate for the revenue
shortfall.

We may not be able to expand our
manufacturing capacity or marketing efforts quickly enough to support our future growth.

Because
of our small size and our business strategy to aggressively increase our sales, we
anticipate an increased demand on all of our resources. If we do not accurately estimate
our need for personnel, manufacturing capacity or marketing and customer support, we may
not be able to support our future growth.

We depend on a small number of
large customers, and the loss of one or more of them would lower our revenues.

Our
customer base is highly concentrated among a limited number of large customers, primarily
because the semiconductor industry is dominated by a small number of large companies. We
anticipate that our revenues will continue to depend on a limited number of major
customers, although the companies considered to be our major customers and the percentage
of our revenue represented by each major customer may vary from period to period. The loss
of any of one of our major customers would adversely affect our sales and revenues.
Furthermore, if any of our customers become insolvent or have difficulties meeting their
financial obligations to us for any reason, we may suffer losses.

We operate in an extremely
competitive market, and if we fail to compete effectively, our revenues and market share
will decline.

Although
the market for integrated process control systems used in semiconductor manufacturing is
currently concentrated and characterized by relatively few participants, the semiconductor
capital equipment industry is intensely competitive. We compete with Nanometrics Inc.,
Therma-Wave Inc. and Rudolph Technologies Inc., which manufacture and sell integrated
process control systems. In addition, we compete with established manufacturers of
conventional stand-alone measurement equipment, such as KLA-Tencor Corp., and original
semiconductor equipment manufacturers, such as Tokyo Electron Ltd. Established companies,
both domestic and foreign, compete with our product line, and new competitors are entering
our market. Many of our competitors have greater financial, engineering, manufacturing and
marketing resources than we do. If a particular customer selects a competitors
capital equipment, we expect to experience difficulty in selling to that customer for a
significant period of time. A substantial investment is required by customers to evaluate,
test, select and integrate capital equipment into a production line. As a result, once a
manufacturer has selected a particular vendors capital equipment, we believe that
the manufacturer generally relies upon that equipment for the specific production line
application and frequently will attempt to consolidate its other capital equipment
requirements with the same vendor. We believe that our ability to compete successfully
depends on a number of factors both within and outside of our control, including:

- 5 -

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| |  | the
contribution of our equipment to our customers' productivity;
| | - | -----------------------------------------------------------------

| |  | our
product quality and performance;
| | - | ------------------------------------

| |  | our
global technical service and support;
| | - | -----------------------------------------

| |  | the
return on investment (ROI) of our equipment and its cost of ownership;
| | - | --------------------------------------------------------------------------

| |  | the
breadth of our product line; and
| | - | ------------------------------------

| |  | our
success in developing and marketing new products.
| | - | -----------------------------------------------------

If
we fail to compete in a timely and cost-effective manner against current or future
competitors, our revenues and market share will decline.

The ongoing consolidation in our
industry may harm us if our competitors are able to offer a broader range of products and
greater customer support than we can offer.

We
believe that the semiconductor capital equipment market is undergoing consolidation. A
number of suppliers have been acquired by larger equipment manufacturers. For example, in
2001 Therma-Wave Inc. acquired Sensys Instruments Corp., in 2002 Rudolph Technologies Inc.
acquired ISOA Inc. and in 2003 Applied Materials acquired Boxer Cross Inc. In the first
quarter of 2005, our primary competitor, Nanometrics Inc., entered into a merger agreement
with August Technologies Inc. We believe that similar acquisitions and business
combinations involving our competitors and customers may occur in the future. These
acquisitions could adversely impact our competitive position by enabling our competitors
and potential competitors to expand their product offerings and customer service, which
could provide them an advantage in meeting customers needs, particularly with those
customers that seek to consolidate their capital equipment requirements with a smaller
number of vendors. The greater resources, including financial, marketing and support
resources, of competitors involved in these acquisitions could permit them to accelerate
the development and commercialization of new competitive products and the marketing of
existing competitive products to their larger installed bases. Accordingly, such business
combinations and acquisitions by competitors or customers could jeopardize our competitive
position.

Because we are small, we depend on
a small number of employees who possess both executive and technical expertise, and the
loss of any of these key employees would hurt our ability to implement our strategy and to
compete effectively.

Because
of our small size and our reliance on employees with both executive and advanced technical
skills, our success depends significantly upon the continued contributions of our officers
and key personnel. All of our key management and technical personnel have expertise, which
is in high demand among our competitors, and the loss of any of these individuals could
cause our business to suffer. We do not maintain life insurance policies for our officers
and directors.

Our lengthy sales cycle increases
our exposure to customer cancellations or delays in orders, which may result in obsolete
inventory and volatile quarterly revenues.

Sales
of our systems depend, in significant part, upon our customers adding new manufacturing
capacity or expanding existing manufacturing capacity, both of which involve a significant
capital commitment. We may experience delays in finalizing sales following initial system
qualification while a customer evaluates and approves an initial purchase of our systems.
In general, for new customers or applications, our sales cycle takes between 3 and 24
months to complete. During this time, we may expend substantial funds and management
effort. Lengthy sales cycles subject us to a number of significant risks, including
inventory obsolescence and fluctuations in operating results, over which we have little or
no control.

- 6 -

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Because of the technical nature of
our business, our intellectual property is extremely important to our business, and our
inability to protect our intellectual property would harm our competitive position.

As
of December 31, 2004, we had obtained 40 U.S. patents and had 23 U.S. patent applications
pending. In addition, we had obtained 19 foreign patents and had more than 70 foreign
patent applications pending.

We
cannot assure you that:

| |  | pending
patent applications will be approved;
| | - | ---------------------------------------------

| |  | any
patents will be broad enough to protect our technology, will provide us with competitive
advantages or will not be challenged or invalidated by third parties; or
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | the
patents of others will not have an adverse effect on our ability to do business.
| | - | ------------------------------------------------------------------------------------

We
also cannot assure you that others will not independently develop similar products,
duplicate our products or, if patents are issued to us, design around these patents.
Further, because patents may afford less protection under foreign law than is available
under U.S. law, we cannot assure you that any foreign patents issued to us will adequately
protect our proprietary rights.

In
addition to patent protection, we also rely upon trade secret protection, employee and
third-party nondisclosure agreements and other intellectual property protection methods to
protect our confidential and proprietary information. Despite these efforts, we cannot be
certain that others will not otherwise gain access to our trade secrets or disclose our
technology.

There has been significant
litigation involving intellectual property rights in the semiconductor and related
industries and similar litigation involving Nova could force us to divert resources to
defend against this litigation or deter our customers from purchasing our systems.

We
have been, and may in the future be, notified of allegations that we may be infringing
intellectual property rights possessed by others. In addition, we may be required to
commence legal proceedings against third parties, which may be infringing our intellectual
property, in order to defend our intellectual property. In the future, protracted
litigation and expense may be incurred to defend ourselves against alleged infringement of
third party rights or to defend our intellectual property against infringement by third
parties. Adverse determinations in that type of litigation could:

| |  | result
in our loss of proprietary rights;
| | - | -----------------------------------------

| |  | subject
us to significant liabilities, including treble damages in some instances;
| | - | ----------------------------------------------------------------------------------

| |  | require
 us to  seek  licenses  from  third  parties,  which  licenses  may  not be
              available on reasonable terms or at all; or
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------

| |  | prevent
us from selling our products.
| | - | -------------------------------------

Any litigation of this type, even if
we are ultimately successful, could result in substantial cost and diversion of time and
effort by our management, which by itself could have a negative impact on our profit
margin, competitive position and ability to develop and market new and existing products.
For additional information on our intellectual property, including information regarding a
civil action we recently commenced against Nanometrics Inc., see Intellectual
Property starting on page 23 of this report.

We depend on a limited number of
suppliers, and in some cases a sole supplier. Any disruption or termination of these
supply channels may adversely affect our ability to manufacture our products and to
deliver them to our customers.

We
purchase components, subassemblies and services from a limited number of suppliers and
occasionally from a single source. Disruption or termination of these sources could occur,
and these disruptions could have at least a temporary adverse effect on our operations. To
date, we have not experienced any material disruption or termination of our supply
sources. A prolonged inability on our part to obtain components included in our systems on
a cost-effective basis could adversely impact our ability to deliver products on a timely
basis, which could harm our sales and customer relationships.

- 7 -

---

---



We are dependent on international
sales, which expose us to foreign political and economic risks that could impede our plans
for expansion and growth.

Our
principal customers are located in the United States, Japan, Taiwan and South Korea and we
produce our products in Israel. International operations expose us to a variety of risks
that could seriously impact our financial condition and impede our growth. For instance,
trade restrictions, changes in tariffs and import and export license requirements could
adversely affect our ability to sell our products in the countries adopting or changing
those restrictions, tariffs or requirements. This could reduce our sales by a material
amount.

Because we derive a significant
portion of our revenues from sales in Asia, our sales could be hurt by the instability of
Asian economies.

A
number of Asian countries have experienced political and economic instability. For
instance, Taiwan and China have had a number of disputes, as have North and South Korea,
and Japan has for a number of years experienced significant economic instability. We have
a subsidiary in Taiwan and we have significant customers in Japan and South Korea. An
outbreak of hostilities or other political upheaval or economic downturns in these or
other Asian countries would likely harm the operations of our customers in these
countries, causing our sales to suffer.

A large number of our ordinary
shares continue to be owned by a relatively small number of shareholders, whose future
sales of our stock, if substantial, may depress our share price.

If
our principal shareholders sell substantial amounts of our ordinary shares, including
shares issued upon the exercise of outstanding options, the market price of our ordinary
shares may fall. As of December 31, 2004 we had 15,308,544 ordinary shares outstanding, of
which 10,216,270 shares were held by nine shareholders.

Because five of our shareholders
control approximately 54% of our ordinary shares, they can control the outcome of matters
submitted to a vote of our shareholders, including the election of directors.

As
of April 30, 2005, five of our shareholders controlled approximately 8.3 million, or 54%,
of our ordinary shares. As a result, and although we are currently not aware of any voting
agreement between such shareholders, if these shareholders voted together or in the same
manner, they would have the ability to control the outcome of corporate actions requiring
shareholder approval. Even if these five shareholders do not vote together, each has the
ability to influence the outcome of corporate actions requiring shareholder
approval.  For additional information on our major shareholders, see Major
shareholders on page 46.

# Risks Related to
Operations in Israel

Potential political, economic and
military instability in Israel may adversely affect our growth and revenues.

Our
principal offices and manufacturing facilities and many of our suppliers are located in
Israel. Although most of our sales are currently being made outside Israel, political,
economic and military conditions in Israel directly affect our operations. Since the
establishment of the State of Israel in 1948, a number of armed conflicts have taken place
between Israel and its Arab neighbors. Conflicts between Israel and Palestinian militant
groups have been ongoing. A state of hostility, varying in degree and intensity, has led
to security and economic problems for Israel. The resumption of hostilities in the region,
and the on-going tension in the region, have a negative effect on the stability of the
region which might have negative effect on our business and harm our growth and revenues.
For further detail see Political and economic conditions in Israel starting on
page 38.

- 8 -

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Our operations may be disrupted by
the obligation of key personnel to perform military service.

Some
of our executive officers and employees in Israel are obligated to perform up to 36 days
of military reserve duty annually. This time-period may be extended by the Minister of
Defense or in the event of a declared national emergency. Our operations could be
disrupted by the absence for a significant period of one or more of our executive officers
or key employees due to military service. To date, our operations have not been materially
disrupted as a result of these military service obligations, and no executive officer or
key employee was recruited for any significant time period. Any disruption in our
operations due to such obligations would adversely affect our ability to produce and
market our existing products and to develop and market future products.

Because most of our revenues are
generated in U.S. dollars, but a significant portion of our expenses is incurred in New
Israeli Shekels, our profit margin may be seriously harmed by inflation and currency
fluctuations.

We
generate most of our revenues in U.S. dollars, but incur a significant portion of our
expenses in New Israeli Shekels, commonly referred to as NIS. As a result, we are exposed
to risk to the extent that the rate of inflation in Israel exceeds the rate of devaluation
of the NIS in relation to the dollar or if the timing of this devaluation lags behind
inflation in Israel with respect to such expenses that might increase as a result of
inflation in Israel. In that event, the dollar cost of our operations in Israel will
increase and our dollar measured results of operations will be adversely affected. Our
operations also could be adversely affected if we are unable to hedge against currency
fluctuations in the future. Accordingly, we may enter into currency hedging transactions
to decrease the risk of financial exposure from fluctuations in the exchange rate of the
dollar against the NIS. These measures, however, may not adequately protect us from
material adverse effects due to the impact of inflation in Israel.

We participate in government
programs under which we receive tax and other benefits. These programs impose restrictions
on our ability to use the technologies developed under these programs. In addition, the
reduction or termination of these programs would increase our costs.

We
receive conditional grants from the Office of the Chief Scientist of the Israeli Ministry
of Industry and Trade for research and development programs that meet specified criteria.
We are also eligible to receive tax benefits under Israeli law for capital investments
that are designated as approved enterprises. To maintain our eligibility for
these programs and tax benefits, we must continue to meet certain conditions, including
paying royalties related to grants received and making specified investments in fixed
assets. Some of these programs also restrict our ability to manufacture particular
products and transfer particular technology, which was developed as part of the
approved enterprises, outside of Israel, by requiring approval of the research
and development committee nominated by the Office of the Chief Scientist of the Israeli
Ministry of Industry and Trade under applicable law. Such approval may be given only if
the recipient abides by all the provisions of the law and related regulations. Approval to
manufacture products outside of Israel or consent to the transfer of technology, if
requested, might not be granted.

If
we fail to comply with these conditions in the future, the benefits received could be
cancelled. We could also be required to pay increased taxes or refund any benefits
previously received, adjusted for inflation and interest. In 2003 and 2004, we recorded an
aggregate of $2.3 million and $1.9 million, respectively, in conditional grants under
Israeli government programs. As of December 31, 2004, our contingent liability to the
Office of the Chief Scientist for grants received was approximately $4.0 million. See also
Note 7A to our consolidated financial statements contained elsewhere in this report. From
time to time, we submit requests for new grants from the Office of the Chief Scientist and
for expansion of our approved enterprise programs. These requests might not be approved.
The Israeli government has reduced the benefits available under these programs in recent
years and has indicated that it may reduce or eliminate these benefits in the future. The
termination or reduction of these grants and tax benefits could harm our business,
financial condition and results of operations. In addition, if we increase our activities
outside Israel due to, for example, future acquisitions, our increased activities
generally will not be eligible for inclusion in Israeli tax benefit programs. Accordingly,
our effective corporate tax rate could increase significantly in the future.

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Any shareholder with a cause of
action against us as a result of purchasing our ordinary shares, or as a result of buying,
selling or holding our ordinary shares may have difficulty asserting a claim under U.S.
securities laws or enforcing a U.S. judgment against us or our officers, directors or
Israeli auditors.

We
are organized under the laws of the State of Israel, and we maintain most of our
operations in Israel. Most of our officers and directors as well as our Israeli auditors
reside outside of the United States and a substantial portion of our assets and the assets
of these persons are located outside the United States. Therefore, if you wish to enforce
a judgment obtained in the United States against us, or our officers, directors and
auditors, you will probably have to file a claim in an Israeli court. Additionally, you
might not be able to bring civil actions under U.S. securities laws if you file a lawsuit
in Israel. We have been advised by our Israeli counsel that Israeli courts generally
enforce a final executory judgment of a U.S. court for liquidated amounts in civil matters
after a hearing in Israel. If a foreign judgment is enforced by an Israeli court, it will
be payable in Israeli currency. However, payment in the local currency of the country
where the foreign judgment was given shall be acceptable, subject to applicable foreign
currency restrictions.

Our shares are listed for trade on
more than one stock exchange, and this may result in price variations.

Our
ordinary shares are listed for trading on the Nasdaq National Market and on the Tel Aviv
Stock Exchange. This may result in price variations. Our ordinary shares are traded on
these markets in different currencies, U.S. dollars on the Nasdaq and New Israeli Shekels
on the Tel Aviv Stock Exchange. These markets have different opening times and close on
different days. Different trading times and differences in exchange rates, among other
factors, may result in our shares being traded at a price differential on these two
markets. In addition, market influences in one market may influence the price at which our
shares are traded on the other. While our ordinary shares are listed for trading on the
Tel Aviv Stock Exchange, there has been no trading of our shares on that exchange since
the fourth quarter of 2002. We believe that there has not been any trading on the Tel Aviv
Stock Exchange since fourth quarter of 2002 as a result of the belief of buyers and
sellers that the Nasdaq market offers greater liquidity and, generally, more favorable
prices. We are unable to predict whether there will be trading on the Tel Aviv exchange in
the future.

We may be classified as a passive foreign investment Company and, as a result, our U.S. shareholders may
suffer adverse tax consequences.

Generally,
if for any taxable year 75% or more of our gross income is passive income, or at least 50%
of our assets are held for the production of, or produce, passive income, we may be
characterized as a passive foreign investment company for U.S. federal income tax
purposes. Our passive income would not include income derived from the sale of our
products, but would include amounts derived by reason of a temporary investment of any
cash amounts. This characterization could result in adverse U.S. tax consequences to our
shareholders, including having gain realized on the sale of our shares be treated as
ordinary income, as opposed to capital gain income, and having potentially punitive
interest charges applied to such sales proceed. U.S. shareholders should consult with
their own U.S. tax advisors with respect to the U.S. tax consequences of investing in our
ordinary shares.

We
believe that in 2004 we were not a passive foreign investment company and currently we
expect that we will not be a passive foreign investment company in 2005. However, passive
foreign income company status is determined as of the end of the full tax year and is
dependent on a number of factors, including the value of a corporations assets in
the amount and type of its gross income. Therefore, there can be no assurances that we
will not become a passive foreign investment company for the current fiscal year ending on
December 31, 2004 or any future year. For a discussion on how we might be characterized as
a passive foreign investment company and related tax consequences, please see the section
of this annual report entitled U.S. Taxation  Passive
Foreign Investment Companies.

# Item 4. Information on
the Company

# History and Development
of the Company

Nova
Measuring Instruments Ltd. was incorporated in May 1993 under the laws of the State of
Israel. We commenced operations in October 1993 to design, develop and produce integrated
process control systems for use in the manufacture of semiconductors, also known as
integrated circuits or chips. In October 1995, we began manufacturing and marketing
systems for chemical mechanical polishing processes. We have since expanded our product
offering to include systems designed for chemical vapor deposition, lithography and etch,
and are continuing to develop new products and additional applications for our current
products.

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In
April 2000, we conducted an initial public offering pursuant to which we sold 3,000,000
ordinary shares for consideration of $54 million and net proceeds of $49.2 million. In
connection with the public offering, our shares were listed for trading on the Nasdaq
National Market.

In
June 2002, we listed our shares in the Tel-Aviv Stock Exchange in Israel, pursuant to
legislation which enables Israeli companies whose shares are traded on certain stock
exchanges outside of Israel to be registered on the Tel Aviv Stock Exchange, while
reporting, in substance, according to the provision of the relevant foreign securities law
applicable to the company. The Israeli securities laws prescribe that as condition
precedent to a company being eligible to register its shares for trade on the Tel Aviv
Stock Exchange, the companys capital must consist of a single class of shares with
equal voting rights with respect their par value. Accordingly, all of our series E shares
were converted into ordinary shares in May 2002. This conversion was approved by the Tel
Aviv District Court on May 2002 and our Articles of Association were amended accordingly.

We
have four wholly owned subsidiaries in the U.S., Japan, Taiwan and Netherlands. These
subsidiaries are engaged in marketing activities and provide technical support to our
customers.

Our
main office, research and development and production facilities are located in Israel at
the Weizmann Science Park, Building 22, 2nd Floor, Ness-Ziona. Our telephone number at our
main office is +1-972-8-938-7505. Our agent for service of process in the U.S. is David
Gitlin, of Wolf, Block, Schorr and Solis-Cohen LLP, 1650 Arch Street, 22nd Floor,
Philadelphia, PA 19103.

# Overview

We
are a worldwide leading designer, developer and producer of integrated process control
metrology systems used in the manufacture of semiconductors and a leading designer,
manufacturer and producer of stand-alone process control metrology systems. Metrology
systems measure various thin film properties, critical circuit dimensions and
layer-to-layer circuit alignment, known as overlay, during various steps in the
semiconductor manufacturing process, allowing semiconductor manufacturers to increase
quality, productivity and yields, lower their manufacturing costs and increase their
profitability. We supply our metrology systems to major semiconductor manufacturers
worldwide, either directly or through process equipment manufacturers. Of the 20
semiconductor manufacturers that had the highest capital equipment expenditures in 2004,
18 use our systems, including Intel, Samsung, TSMC, UMC, IBM, AMD and Micron Technology.
Process equipment manufacturers that purchase our metrology systems include Applied
Materials, Ebara, Novellus and Lam Research. Our systems were first installed in 1995 and,
since that time, we have sold more than 1,250 metrologysystems.

The
semiconductor manufacturing process starts with a silicon wafer that has been highly
polished on one side to a mirror finish, upon which circuits are constructed. To construct
the circuits, a series of layers of thin films that act as conductors, semiconductors or
insulators are applied to the polished side of the wafer. During the manufacturing
process, these film layers are subjected to processes which remove portions of the film
layers, create circuit patterns and perform other functions. The semiconductor
manufacturing process requires exacting steps and strict control of equipment performance
and process sequences. Tight control can be achieved through monitoring silicon wafers and
measuring relevant parameters after each process step with metrology tools such as those
we produce.

Prior
to the introduction of our integrated metrology systems, process control was achieved
through stand-alone measurement equipment. Stand-alone measurement equipment requires
semiconductor manufacturers to interrupt the manufacturing process sequence, remove sample
silicon wafers from the process equipment and place the silicon wafers on the stand-alone
measuring or inspection tool. In contrast, our integrated metrology approach is based upon
patented measuring methods that enable us to produce optical measuring systems that are
small enough to be integrated directly inside many types of semiconductor process
equipment. Our integrated approach offers considerable advantages over the conventional
stand-alone approach to metrology control, enabling manufacturers using our integrated
equipment to reduce costs and to improve production efficiency, yield and quality.

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We
have emphasized our integrated metrology solutions in the past and intend to continue to
do so. However, we also produce stand-alone metrology systems. We plan to leverage our
technology, methods, metrology expertise and market position in the integrated metrology
field to expand our offerings of stand-alone metrology systems. Our long-term strategy is
focused on advanced metrology and process control solutions where our integrated process
control products and stand alone products are compatible or complementary.

Demand
for metrology systems, whether integrated or stand-alone, is driven by capital equipment
purchases by semiconductor manufacturers, which in turn are driven by worldwide demand for
semiconductors. Industry data indicates that the worldwide demand for semiconductors is
growing. We believe that this growth in demand will drive demand for process control
equipment, including metrology systems, as semiconductor manufacturers add capacity.
Demand for metrology systems will also be driven by the increasing cost to manufacture
semiconductors, which are becoming larger and more complex, and the demands of
semiconductor manufacturers for process equipment that provides better film uniformity,
increased dimensional control, tool-to-tool matching and within-tool uniformity.

# Our Market

Growth
of the Semiconductor Industry and the Metrology Market

The
use of semiconductor devices continues to increase. Semiconductors are no longer used
solely in personal computers and computer systems, but also in wireless communications,
Internet infrastructure, Internet access devices, automobiles, portable electronic devices
and other advanced consumer electronics. As a result of the increasing demand for
semiconductors, the semiconductor industry has experienced significant growth over the
past eight to 10 years, despite a severe downturn between 2000 and 2003. According to the
Semiconductor Industry Association, worldwide sales of semiconductors decreased from $223
billion in 2000 to $178 billion in 2003, and than increased to $220 billion in 2004. Over
the past decade, the increased use of semiconductors has driven demand for additional
semiconductor manufacturing capacity. In turn, the addition of semiconductor manufacturing
capacity, whether through new construction or refurbishment of existing manufacturing
facilities, has been a driver of demand for metrology systems such as those we produce.

The
increased use of semiconductors has been accompanied by in increase in their complexity.
Due to the creation of new applications and markets for semiconductors, suppliers and
manufacturers are faced with an increasing demand for new products that provide greater
functionality and higher performance at lower prices. As a result, many new complex
materials, structures and processes are being introduced to semiconductor manufacturing.
New materials include copper, low- and high-k dielectrics, silicon-on-insulator,
silicon-germanium, strained silicon, raised source/drain. New processes include chemical
mechanical polishing (CMP), electro chemical plating (ECP) and
atomic layer deposition (ALD). Manufacturers are also increasingly moving
toward 300 mm silicon wafers from 200 mm silicon wafers. While 300 mm wafers can yield up
to twice as many integrated circuits as 200 mm wafers, larger wafers increase
manufacturing challenges. For example, because 300 mm wafers can bend or bow more than
twice as much as 200 mm wafers, they are more susceptible to damage. The larger area of
300 mm wafers also makes it more difficult to maintain film uniformity across the entire
wafer. Semiconductors also continue to move toward smaller feature sizes and more complex
multi-level circuitry. The increase in complexity of semiconductors and the resulting
increase in the complexity and cost of the semiconductor manufacturing process has also
been a driver of demand for metrology systems.

The
ever-increasing level of complexity and the decrease in feature sizes has also
significantly increased the cost and performance requirements of semiconductor fabrication
equipment. The cost of wafer fabrication equipment is also increased due to the higher
levels of automation being utilized by manufacturers. Thus, semiconductor manufacturers
must increase their investment in capital equipment in order to sustain technological
leadership, to expand manufacturing capacity and maintain profitability. According to
published reports by an industry market research firm, the cost of building a
state-of-the-art semiconductor manufacturing facility has grown from approximately $200
million in 1983 to over $3 billion today.Capital equipment, which includes
metrology systems, accounts for 65% to 75% of this sum, according to industry data. We
believe that the process control equipment market, which includes the metrology segment,
in the future will grow at a rate greater than the overall process equipment market since
process control equipment is expected to consume a larger portion of the overall costs of
semiconductor manufacturing equipment.

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While
we expect that the demand for semiconductors will increase and the market for
semiconductor process control equipment will expand, we cannot assure you that either will
occur, that we will benefit from any increase in demand or expansion of the process
control market, or that our products will be accepted in the market place. Our industry is
intensively competitive and if we fail to compete effectively our revenues and market
share will decline. In addition, the semiconductor industry, and the semiconductor capital
equipment market in particular, are highly cyclical. Therefore, while we anticipate demand
for semiconductors will increase and the market for semiconductors capital equipment will
expand, it is likely that there will be periodic downturns which may be severe and
protracted.

The
Semiconductor Manufacturing Process

Semiconductors
typically consist of transistors or other components connected by an intricate system of
circuitry on flat silicon discs known as wafers. Integrated circuit manufacturing involves
hundreds of individual steps, some of which are repeated several times, through which
numerous copies of an integrated circuit are formed on a single silicon wafer. Typically,
up to 30 very thin patterned layers are created on each wafer during the manufacturing
process. At the end of the manufacturing process, the wafer is cut into individual chips
or die. Because semiconductor specifications are extremely exacting, and integrated
circuits are becoming more complex, requiring ever more sophisticated manufacturing
processes, the process steps are constantly monitored, and critical parameters are
measured at each step using metrology equipment.

Many
of the manufacturing steps involve the controlled application or removal of layers of
materials to or from the wafer. The application of materials to the wafer, known as
deposition, involves the layering of extremely thin films of electrically insulating,
conducting or semi-conducting materials. These layers can range from one-thousandth to
less than one-hundred-thousandth of a millimeter in thickness and create electrically
active regions on the wafer and its surface. A wide range of materials and deposition
processes are used to build up thin film layers on wafers to achieve specific performance
characteristics. One of the principal methods of thin film layer deposition is chemical
vapor deposition (CVD). In CVD, a chemical is introduced into the chamber where the wafer
is being processed and is deposited using heat and a chemical reaction to form a layer of
solid material on the surface of the silicon wafer. Metrology systems monitor the
thickness and uniformity of thin film layers during the deposition process.

Once
the thin film has been deposited on the wafer to form a solid material, circuit patterns
are created using a process known as photolithography. During this process, a
light-sensitive coating called photoresist is applied to the wafer, which is then exposed
to intense light through a patterned, opaque piece of glass. For the photolithography
process to work properly, the thickness of the photoresist must be precise and uniform. In
addition, to control the photolithography process, the film thickness, reflectivity,
overlay registration and critical dimensions are all measured and verified. The exposed
photoresist is developed when it is subjected to a chemical solution. The developed wafer
isthen exposed to another chemical solution, or plasma, that etches away any areas
not covered by the photoresist to create the structure of the integrated circuit.
Semiconductor manufacturers use metrology systems to verify the removal of material
through the etch process and the critical dimensions of the structures created.

To
meet the processing challenges posed by ever smaller feature sizes and because of the
use of new materials such as copper in the manufacture of integrated circuits,
manufacturers are increasingly using a process technology known as chemical mechanical
polishing. Chemical mechanical polishing, or CMP, removes uneven film material deposited
on the surface of the wafer from processes such as CVD and photolithography by carefully
sanding the wafer with abrasives and chemicals, creating an extremely flat and
even surface for the patterning of subsequent film layers. Metrology systems are used to
control and verify the results of the CMP process by measuring the thin film layer to
determine when the correct thickness has been achieved.

The
processes described above are repeated in sequence until the last layer of structures on
the wafer has been completed. Each integrated circuit on the wafer is then inspected and
its functionality tested before shipment. Measurements taken by metrology systems during
the manufacturing process help insure process uniformity and help semiconductor
manufacturers avoid costly rework and mis-processing, thereby increasing efficiency and
profitability.

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The
Need for Greater Overall Equipment Efficiency

According
to SEMATECH, the industry consortium for semiconductor manufacturers, one of the major
challenges to achieving improvements in cost productivity is the ability to maintain
continuous improvements in equipment productivity. Overall equipment efficiency, that is,
the percentage of time that processing equipment is utilized to produce wafers, is used as
a metric to quantify the productivity of a processing tool. The major factors affecting
productivity are equipment downtime, qualification time, misprocessing and operator
skills. We believe it is imperative that semiconductor manufacturers find ways to improve
overall equipment efficiency in order to improve cost productivity and earn an acceptable
return on their investment in capital equipment and to meet the demand for improved
semiconductor device performance.

Process
Control. The steps used to create semiconductors are an exacting processes that
require strict control of equipment performance and process sequences for the resulting
semiconductors to function properly. Tight control is achieved through monitoring of the
in-process wafers and by measuring relevant parameters after each process step. These
procedures are usually carried out on a small sample of the wafers. The monitoring may
include measurement of several parameters, such as the thickness of the layers of thin
film deposited, the sizes of the features that are patterned through the photolithography
process, as well as the registration or alignment between two consecutive layers, known as
overlay. Monitoring also includes inspection of the wafer for irregularities, defects or
scratches. If parameters are out of specification or if defects or contamination are
present, the manufacturer adjusts the process and measures another sample of wafers
thereby allowing manufacturers to reduce costs and improve device performance.

Traditional
Stand-Alone Process Control and Its Limitations. In the standard approach to
semiconductor manufacturing, process control is a stand-alone operation. Stand-alone
process control systems, however, impose a number of limitations on the semiconductor
manufacturer. The semiconductor manufacturer must interrupt the process sequence and add
extra steps in order to remove sample wafers from the fabrication process equipment and
put them on a stand-alone measuring or inspection tool. The conventional stand-alone
approach necessitates redundant robotic wafer handling hardware and software in both the
process equipment and the stand-alone process monitoring tools, as well as additional
wafer transferring automation systems between the two pieces of equipment, resulting in
decreased factory efficiency and reduced productivity. In addition, removing the wafer
samples from the process equipment to the metrology tool increases the risk of
contamination or damage. As this removal significantly detracts from useable process time,
it is not practical to make a large number of measurements, thereby compromising the
accuracy of the measurement of process deviations and trends. If a measurement indicates
that the process has been out of specification, the wafers made since the sample wafers
were removed for inspection may have to be discarded or re-worked, actions that are
increasingly costly for the manufacturer.

The
Need for More Effective Process Control Tools. In addition to the inherent limitations
of stand-alone process control systems, a number of technical and operational trends
within the semiconductor manufacturing industry are strengthening the need for more
effective process control solutions. These trends include:

| |  | Development
of smaller semiconductor features.The development of smaller features, now as small
as 90 nm in production, enables semiconductor manufacturers to produce larger numbers of
circuits per wafer and to achieve higher circuit performance. As feature geometries
decrease, manufacturing yields become increasingly sensitive to processing deviations and
defects, as more integrated circuits are lost with every discarded wafer. In addition,
the increased complexity and number of layers of the integrated circuits increase the
chance of error during the manufacture of the wafer.
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Shortening
of technology life cycles.The technology life cycle of integrated circuits continues
to shorten as semiconductor manufacturers strive to adopt new processes that allow a
faster transition to smaller, faster and more complex devices. In the past, the
technology life cycle was approximately three years; it is now only two years. The
accelerating rate of obsolescence of technology makes early achievement of enhanced
productivity and high manufacturing yields an even more critical component of a
semiconductor manufacturers profitability.
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

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| |  | Transition
to copper and other new materials.Copper metal layers and other new materials such
as low and high k-dielectrics and silicon on insulator are increasingly replacing
aluminum for advanced integrated circuits in order to increase performance and reduce the
cost of integrated circuits. Copper and low-K materials make it possible to build higher
speed devices using fewer layers. The use of copper and other new materials, requires new
processing and metrology equipment and thus represents challenging developments for the
semiconductor manufacturing industry.
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Change
to 300-millimeter wafers.The transition in wafer size from 200-millimeter diameter
to 300-millimeter diameter that began in 1999 more than doubles the number of
integrated circuits per wafer. Maintaining process uniformity across these larger wafers
is more difficult. Processing larger wafers also increases the cost of mistakes caused by
both the larger number of integrated circuits per wafer and the greater complexity (and,
therefore, cost) of processing larger wafers. Thus, with 300 mm wafers, the need for
effective metrology to quickly detect and correct errors in the manufacturing process has
increased. In addition, new metrology equipment is needed to accommodate the larger wafer
size.
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Increase
in foundry manufacturing.Asa result of the rising investment for
semiconductor production and the proliferation of different types of semiconductors,
semiconductor manufacturing is increasingly being outsourced to large semiconductor
contract manufacturers, or foundries. A foundry typically runs several different
processes and makes hundreds to thousands of different semiconductor product types in one
facility, making the maintenance of a constant high production yield and overall
equipment efficiency more difficult to achieve.
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Increase
in Automation. In an effort to achieve greater operating efficiencies, semiconductor
manufacturers are increasingly relying upon automation. Automation represents the fastest
growing segment of the semiconductor manufacturing industry.
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

In
order to address the increasing costs associated with these trends, we believe
semiconductor manufacturers must enhance manufacturing productivity. One way to enhance
productivity is through improvements in process control, with a greater emphasis on
metrology as part of process control. As part of this emphasis on metrology, manufacturers
are taking more measurements to characterize each step of the semiconductor manufacturing
process, new and enhanced measurement techniques are being used to provide meaningful data
and the data provided is being used in new ways to enhance the manufacturing process.
Furthermore, as circuits and materials become more complex, measurement techniques must
become more sophisticated, requiring a deeper understanding of the interaction of the
various components of the metrology process. Complex automation in the manufacturing
process also makes measurement more expensive.

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Conventional
stand-alone process control systems limit productivity and overall equipment efficiency.
As the cost of capital equipment continues to increase as semiconductor manufacturing
becomes more complex, manufacturers demand greater productivity and efficiency, which
integrated metrology systems can provide. We believe that the demand for advanced process
control systems that address the evolving needs of semiconductor manufacturers will
continue to drive the growth in the market for integrated process control systems.

We
believe integrated metrology systems provide semiconductor manufacturers with the greatest
opportunity to increase the productivity and yields of their equipment, thereby increasing
their profitability. Therefore, we anticipate that we will continue to focus on the
integrated metrology market. However, recognizing that a significant number of
semiconductor manufacturers will continue to rely upon stand-alone equipment, we intend to
leverage our market leading position in the integrated metrology market and our metrology
expertise to deepen our penetration of the stand-alone metrology market. Furthermore, the
technological and operational trends within the semiconductor manufacturing industry that
are strengthening the need for more effective process control solutions can also be
addressed through the use of stand-alone metrology equipment, although, we believe, that
greater efficiency can be achieved through the use of integrated metrology systems.

# The Nova Approach

Integrated
Metrology

Our
integrated metrology systems provide semiconductor manufacturers with more effective and
efficient process control by measuring wafers and their properties without removing the
wafer from the process equipment. Our products use our patented measuring methods that
enable us to produce optical measuring systems that are small enough to be incorporated
directly inside many types of equipment used in semiconductor processing. Integrated
systems measure the wafer within the actual process environment, reducing labor and wafer
handling as well as the risk of contamination of or damage to the wafer. In addition, we
believe that our systems deliver significant increases in overall equipment efficiency
through advanced process control, along with improving wafer-to-wafer uniformity, all with
minimal operator intervention.

We
provide our customers with flexible integrated process control solutions by offering
systems that meet thin film measurement needs in critical applications in the fabrication
process. Our integrated process control platform can be deployed to multiple processes and
applications of semiconductor manufacturing.

Our
systems can be installed directly in new equipment or used to upgrade existing equipment
with minimal integration costs, extending the useful life of existing process equipment
and saving significant capital costs. To our knowledge, only our metrology systems can be
used to retrofit older 200 mm semiconductor manufacturing equipment, giving us a unique
opportunity as manufacturers seek to increase production quickly to meet the increasing
demand for semiconductors. Our pioneering approach, centered around our NovaReady
integration package, later adopted by the process equipment manufacturers, allows process
equipment manufacturers to prepare their equipment to accept our measurement and
inspection systems, which can then be integrated with a simple plug-and-play installation.

We
believe our integrated process control systems provide several important advantages to
semiconductor manufacturers, enabling manufacturers to:

| |  | utilize
the process  equipment wafer handling  system to allow  measurement of the sample wafers
while                            processing other wafers;
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | perform
the  measurements  without  removing  the wafer from the  process  equipment,  increasing
 the                            efficiency  of the  process  and  decreasing  the risk of
                           contamination;
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

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| |  | reduce
capital costs of the fabrication facility by increasing overall equipment efficiency and
reducing labor costs and necessary clean room area;
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------

| |  | reduce
the amount of time required to qualify process equipment that is usually idle during
qualification steps, thus, minimizing costly equipment down-time;
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | reduce
the number of test wafers; and
| | - | -------------------------------------

| |  | detect
processing errors more quickly.
| | - | --------------------------------------

We
believe that as semiconductor manufacturers demand greater efficiency from their
manufacturing equipment, process equipment manufacturers will increasingly seek to offer
their customers integrated metrology in their tools to lower costs and increase overall
efficiency. In addition, as semiconductor manufacturers seek to increase production, we
believe they will seek to increase the efficiency of older equipment by retrofitting older
equipment with new metrology systems. We believe the drive toward more efficient
manufacturing operations in the face of increasing complexity will accelerate the adoption
of integrated metrology solutions such as those we offer.

Stand-alone
Metrology

We
believe that our integrated metrology systems offer significant advantages over
traditional stand-along systems. We do, however, believe that a significant number of
semiconductor manufacturers will continue to use stand-alone metrology equipment for all
or a portion of their manufacturing equipment. In order to be able to serve all the
metrology needs of our customers, whether integrated or stand-alone, we plan to leverage
our position in integrated metrology to increase our offerings and market penetration for
stand-alone systems.

As
a result of the ever changing semiconductor manufacturing process and accompanying process
control needs, we have begun to develop a new process control equipment concept. Under
this concept, the same basic metrology will be used in different configurations, depending
upon customer demands. For example, the same metrology module could be used as an
integrated system inside the process equipment, as stand-alone systems or in metrology
cluster tools. This would allow for easy customization of metrology solutions for any
given process and would allow multiple metrology solutions to be combined in a single
platform to answer all process needs. As we envision it, this new concept will allow
semiconductor manufacturers unparalleled flexibility, upgradeability and affordability in
both stand-alone and integrated forms. As technology life cycles continue to decrease,
flexibility and upgradeability will become even more important. While we have not yet
fully developed our new process equipment concept, we anticipate that we will begin
offering new products based on the concept within the next 12 months. We cannot assure
you, however, that we will be able to meet this anticipated schedule or that, if
introduced, these products will be accepted by the market and purchased by customers in
amounts sufficient to generate significant revenues or any profits.

# Our Strategy

Our
strategy is to continually strengthen our leading position in the semiconductor process
control market by providing innovative and superior products and solutions that generate
sustainable growth and profitability. The key elements of our strategy are:

| |  | Technological
leadership in metrology. We intend to continue our aggressive investment in research
and development to allow us to continue to provide superior leading-edge technology and
metrology solutions to the semiconductor manufacturing industry on a timely basis. We
believe that our proprietary and patented technology and our extensive expertise in
integrated metrology, optics, software, and systems integration provide us with
significant advantages over our competitors. We intend to leverage our existing
intellectual property and experience and expertise to maintain technological leadership.
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| |  | Maintain
our open architecture policy that enables us to provide process control solutions that
areintegrate-able into many different brands of processequipment. Our
open architecture policy enables us to integrate our systems into many different brands
of process equipment, thereby offering our end user and process equipment manufacturer
customers maximum flexibility. In addition, this policy allows our products to be
installed directly in new equipment, whether by the process equipment manufacturer or the
end user, or retrofitted in older equipment in order to extend the productive and
technological life of older equipment. Through our open architecture policy, we have
established original equipment manufacturer partnerships with the major CMP tool
manufacturers. Under our NovaReady concept, equipment manufacturers can
prepare their equipment to accept our integrated metrology systems with relative ease by
finding on-tool space and providing wafer handling access and minimal wiring for our
integrated metrology systems, which are a little larger than a wafer, with a small
optical head that scans the wafers. Most CMP equipment manufacturers such as Applied
Materials, Ebara, Nikon, Novellus, Strasbaugh, and others are using our NovaScan systems.
We are strongly committed to our multi-vendor policy and are establishing relationships
with different process equipment manufacturers for our new developments.
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Focus
on customer needs.Process equipment manufacturers and end users are our customers
and we will continue to focus on them as we develop the next generation of metrology
products, including products based on our new process equipment concept. In addition, we
plan to continue to strengthen our relationships with our process equipment and end user
customers by seeking opportunities for collaborative development of products and new
service opportunities. We also intend to focus on increasing our penetration with respect
to existing customers by continuing to seek opportunities to offer our metrology
solutions across their entire manufacturing facility and to continue to provide excellent
service and the highest quality products to our customers.
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Continue
to market our pioneering NovaReady concept. Under our NovaReady concept,
we work with process equipment manufacturers so that they can prepare their equipment to
accept our integrated metrology systems with a simple plug-and-play installation. We also
work directly with semiconductor manufacturers to understand their needs, provide
solutions to meet those needs and metrology systems that can be easily integrated into
their new or existing manufacturing equipment. By working directly with both process
equipment manufacturers and semiconductor manufacturers, we believe our NovaReady concept
allows us to create a long-term, three-way relationship among the process equipment
manufacturer, the semiconductor manufacturer that is the end-user customer and Nova,
encompassing sales, training and on-going support. We plan to continue to market and
promote our NovaReady concept, which we believe is unique and allows us to establish
strong and long-term relationships with our customers.
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| |  | Continue
to expand our worldwide sales and marketing efforts and provide worldwide support.We
plan to focus our marketing efforts on acquiring new key customers around the world. To
further these efforts, we continue to expand our global presence with sales and service
centers in Europe, Israel, Japan, Korea, Singapore, Taiwan and the U.S. Our global
presence allows us to provide the end users with direct service and application support,
thereby decreasing tool downtime and providing us opportunities to promote additional
uses of our products throughout the fabrication process. We plan to expand into
additional territories as customer needs dictate.
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Further
penetrate the installed base of process equipment that can be upgraded with our
integratedprocess control products.We plan to continue to market to the
large installed base of existing process equipment that can be retrofitted with our
integrated process control products. We believe this represents a large and
under-penetrated market segment for our integrated process control products. This
opportunity is especially attractive because we believe that we are the only integrated
metrology solution provider that can retrofit older systems.
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Establish
and maintain strategic relationships with key technology and market partners.We have
established strategic relationships with Applied Materials relating to the development of
integrated metrology solutions for copper CMP processing and with Lucent Technologies
Inc. and Agere Systems Guardian Corporation to gain access to certain technology we hope
will allow us to develop new metrology products and technologies for the semiconductor
industry. Going forward, we plan to continue to seek strategic partners that can provide
us with access to technologies or markets that will allow us to accelerate our creation
of new metrology products and to further penetrate the metrology market.
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Develop
and mature the architecture and platform of the new metrology systems, which will offersignificant improvements in metrology performancetogether with the
flexibility of fast incorporation ofdifferent metrology modules.We have
established a development program that we anticipate will allow us to introduce to the
market our first product based upon our new process control equipment concept, the next
generation (NG), in early 2006. Our intention is that the NG and subsequent
related products will allow relatively fast and cost effective introduction of new
metrology modules.
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

# Our Technology

We
believe that our technological and engineering expertise and research and development
capabilities allow us to develop and offer new products and technologies to meet the
ever-changing demands of the semiconductor industry. We have applied our technological and
engineering expertise to develop a wide range of integrated and stand-alone products for
the CMP, copper CMP, etch and lithography processes. Because of our open architecture
policy, our integrated metrology solutions can work with all models of CMP and etch tools
made by the major process equipment manufacturers, for both 200 mm and 300 mm
applications. In addition, to our knowledge, only our integrated metrology systems can be
used to retrofit existing 200 mm process equipment, giving us a significant advantage over
our competitors.

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Our
suite of technological capabilities includes:

| |  | Laser
ellipsometry.Ellipsometry is a non-contact, non-destructive optical measuring
technique used to measure very accurately the thickness and other properties of
transparent thin films. When a surface is exposed to a polarized light laser,
ellipsometeres measure the change in the reflected lights polarization. By using
multiple light angles and multiple wavelengths, ellipsometry can provide accurate and
reliable measurement of a wide range of film thicknesses, film materials and film stacks.
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Broadband
spectrophotometry.Our broadband spectrophotometry capabilities range from deep
ultraviolet to near infrared. This technology enables fast, accurate and small spot size
film thickness measurement in large range of applications on a very cost effective basis,
both as an integrated system and as a stand-alone system.
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Scatterometry. Our
scatterometry systems are based on our broadband spectrophotometry. These systems use
fully polarized deep ultraviolet to near-infrared spectral light source. This technology
enables fast and cost effective system development. Scatterometry provides two and three
dimensional characterization of very fine geometries on patterned product wafers. These
profiling and critical dimension capabilities are key enablers of advanced process
control, allowing almost real time metrology of the most advanced design rule, down to 65
nm and below.
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Imaging
and image processing. This technology has three different applications: 1) navigating
on product wafers to perform measurement on selected very small sites; 2) detecting
defects on product wafers after critical process steps, such as lithography and etch; and
3) measurement of the accuracy of registration between two layers (overlay measurement),
mostly used in lithography.
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Mass
spectrometry. This technology, which we acquired from Lucent Technologies Inc. and
Agere Systems Guardian Corporation, will be developed to help minimize particle
contamination on product wafers during processing. We anticipate that the system we are
developing will allow to identify contaminating events as soon as they
happen. Currently particle detection is performed in an off-line mode, at least after a
whole lot has been processed.
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Generally,
we develop our own technologies. However, we also directly acquire technology from others
and seek strategic partners that can provide us access to new technologies. In February
2002, we signed a joint development agreement with Applied Materials relating to
integrated metrology for copper chemical mechanical polishing processing. Pursuant to this
agreement, we developed copper chemical mechanical polishing monitoring capabilities using
the NovaScan 2020/3030 Cu, which could be sold exclusively to Applied Materials and its
customers. At the end of 2003, this exclusivity agreement expired and was not extended.
Consequently, we sell our copper chemical mechanical polishing products to and through all
equipment manufacturers, yet the majority are still sold through and with Applied
Materials. In February 2002, we also signed a licensing agreement with Lucent Technologies
Inc. according to which we were licensed the rights to certain of Lucents patents,
software and technical information. In connection with the agreement entered into with
Lucent, we also signed an agreement with Agere Systems Guardian Corporation according to
which we were granted a license to a patent owned by Agere. Pursuant to this agreement, as
well as the agreement entered into with Lucent, we hope to develop new metrology products
and technologies for the semiconductor industry. Going forward, we plan to continue to
seek strategic partners that can provide us with access to technologies or markets that
will allow us to accelerate our creation of new metrology products and to further
penetrate the metrology market.

The
measurement channels that we use in our metrology products are unique and protected by
patented intellectual property. Our measurement channels include: polarized normal
incidence spectral reflectometer/ellipsometer; multi-angle oblique incidence spectral
ellipsometer; and multi-focal image overlay microscope. In addition, we are developing
additional measurement channels including: multi-angle, multi-wavelength, null
ellipsometer; eddy current micro-probe and phase imaging profilometer. In addition to
these proprietary measurement channels, we are also seeking to acquire new measurement
channels from third parties, including: black beam scanning imaging; x-ray
fluorescence spectrometer; macroinspection; and other technologies.

Throughout
our history, we have been a technological leader in the integrated metrology field. We
were the first to offer integrated metrology solutions for semiconductor manufacturers and
are the only provider of integrated metrology solutions that can measure wafers in water,
which allows for more efficient and accurate metrology. Furthermore, because our systems
are small enough to fit inside wafer fabrication equipment, to our knowledge, only our
metrology solutions can be used to retrofit older 200 mm systems. Our systems have also
been recognized by the industry. In 2004, we received the prestigious Editors Choice
Best Product Award from Semiconductor International magazine for our NovaScan 2020Cu,
3030Cu Copper CMP process monitoring.

# Products

Our
products include metrology systems for thin film measurement in chemical mechanical
polishing and chemical vapor deposition applications; optical topography systems for use
in post-copper chemical mechanical polishing applications; optical critical dimension
systems for lithography and etch; and overlay systems for lithography and etch
applications. Our integrated thickness monitoring system for chemical mechanical polishing
processing control enables wafer-to-wafer closed loop control. We offer several models of
this integrated thickness monitoring systems, depending on polisher type and end-user
requirements. These metrology systems address a broad range of metrology requirements of
our end-user and process equipment manufacturer customers. Both our integrated and
stand-alone systems incorporate patented optical scanning, dynamic auto-focus, unique
pattern recognition for arbitrarily oriented wafers and proprietary algorithms for
in-water measuring of two layers simultaneously. We offer several different product models
that are tailored to both conventional chemical mechanical polishing equipment as well as
to newer, high throughput polishers. Following is a summary of our products.

Thin Film Process Control

| |  | The
NovaScan 840 combines high-speed measurement and effective handling, enabling
measurement of wafers both before and after polishing. While we no longer market this
system, this system and prior generations were our main revenue source in 2001 and prior
years.
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | The
NovaScan 2020and 2040 are the second generation of integrated thickness
monitoring systems with enhanced spectral range, responding to the needs of the industry
for emerging chemical mechanical polishing high-end applications of thin films and
complex layer stacks. The 2020 model was introduced to the market in the end of 2000, and
since then has replaced the NovaScan 840 and accounted for the major portion of our sales
for 200 mm production lines. The NovaScan 2040 was introduced in 2002 and is the fastest
integrated film thickness 200 mm measurement system in the market today.
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| |  | The
NovaScan 3030 and 3060are the second generation of the 300mm measuring system, with
improved optics and motion system enabling high speed measurement, and with broad
spectral rage (ultraviolet to infrared) allowing accurate measurements on complex
structures and thin film layers. The 3030 model was introduced to the market in 2001 and
since then has replaced the NovaScan 3000 and accounts for the major portion of our sales
for 300 mm production lines. The NovaScan 3060 was introduced in 2002 and is the fastest
integrated film thickness 300 mm measurement system in the market today.
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | The
NovaScan 2020Cuhas the same basic platform as the NovaScan 2040, with additional
hardware and software improvements, enabling the system to answer the unique requirements
of copper chemical mechanical polishing monitoring. The system went through several beta
tests during 2001 and 2002 and was released for sale in the beginning of 2003. This
product did not generate significant revenues in 2004, and we do not expect it to
generate significant revenues in the following years.
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | The
NovaScan 3030Cu has same basic platform as the NovaScan 3030, with additional
hardware and software improvements, enabling the system to answer the unique requirements
of 300mm copper CMP monitoring. The system went through field-testing during 2002 and was
released for sale in the beginning of 2003. This product did not generate significant
revenues in 2004, and we do not expect it to generate significant revenues in the
following years.
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | A
closed loop control option for the NovaScan systems delivers reliable, highly
automated wafer-to-wafer uniformity over chemical mechanical polishing manufacturing
processes. The thickness data of every processed wafer is obtained and process parameters
are fed back to adjust the next wafer polish.
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | NovaNetis a highly sophisticated computer network, connecting all NovaScan systems on a
factory floor. The network is managed by a dedicated server, running with proprietary
software developed by Nova, and insuring safe recipe distribution and recipe integrity
across the factory. The NovaNet also includes a report generator (NSA) that allows the
creation of reports from all the systems connected and allows programmable cross
sections.
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | The
NovaScan 840CVDsystem is a 200 mm integrated metrology vacuum chemical vapor
deposition measurement system, measuring different layers in the chemical vapor
deposition process. Data can be fed forward to the chemical mechanical polishing process
tool. Integration solutions were developed for different process equipment. The system
was introduced to the market in the end of 2000 and several units have been sold.
However, we do not expect to sell a significant number of these systems in the future.
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | The
NovaScan 3090CDsystem isa scatterometry-based system for measuring the
critical dimensions (CD) and profiling lines and trenches on 200 mm and 300 mm wafers.
The system went through field-testing during 2002 and was released for sale in 2003. The
systems are sold as integrated metrology systems on Lam Research Inc. etch systems and as
stand-alone systems with automation modules acquired from different suppliers, such as
Integrated Dynamics Engineering and Brooks Automation.
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Photolithography Process
Control

The NovaTrack 2020 and 3030systems are a dual-purpose integrated metrology and stand-alone systems for overlay
registration measurement and macro defect inspection in the photolithography process. The
systems are designed for integration on a photoresist track and as a stand-alone system.
Both stand-alone and integrated models of the NovaTrack 2020 finished beta testing in 2003
and have been released for sale. Currently the need for these integrated overlay solutions
is very limited. These products are currently not being promoted in the market due to this
low market potential. We believe that our next generation of systems currently under
development will meet 65 nm and below technology nodes and will have a rather high
integrated metrology potential.

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While
we continue to emphasize our integrated metrology solutions, we offer our products as
stand-alone equipment as well, thereby significantly expanding our potential customer
base. Revenues from stand alone systems were not a significant portion of our revenues in
2004. A significant portion of our revenues are derived from our CMP product line, and we
are substantially dependent on this product line.

# Research and Development

We
have assembled a core team of experienced scientists and engineers who are highly skilled
in their particular field or discipline. Our research and development core competencies,
technologies and disciplines are comprised of thin film measurement, image acquisition,
pattern recognition, inspection and automatic defect classification. Our management and
research and development staff consists of 64 highly skilled members, including
independent contractors. Our staff includes 25 scientists holding Ph.D. degrees and 24
persons holding M.S. degrees. In June 2003, our research and development operations
received the ISO9001/2000 quality mark from an international certification institution.

The
process control market is characterized by continuous technological development and
product innovations. We believe that the rapid and ongoing development of new products and
enhancements to our existing product line is critical to our success. Accordingly, we
devote a significant portion of our technical, management and financial resources to
developing new applications and emerging technologies. In 2002, 2003 and 2004, our
research and development expenses, net of participation by the Office of the Chief
Scientist, were $9.9 million, $8.6 million and $8.7 million, respectively, representing
49%, 32%, and 21% of our respective total revenues for those years. We anticipate that our
research and development expenses, net, will be $9.8 million in 2005, representing an
increase of 13% over 2004.

Our
research and development policy is based on a structured process of initiating new
projects and on-going review of existing development projects. Our vision is to continue
to be a market leader in the semiconductor process control market and our research and
development policies and activities are designed to support this vision. Our launch of new
development projects is based on market requirement specifications, generated through our
marketing activities and research on customer needs, followed by a proposed detailed
business plan, a detailed development plan with milestones, risk analysis, profit and loss
model goals and required budget. Each development project is monitored through a
structured process, including design reviews and project management reviews.

# Intellectual Property

Our
success depends in part upon our ability to protect our intellectual property. We,
therefore, have an extensive program devoted to seeking patent protection for our
inventions and discoveries that we believe will provide us with competitive advantages. We
have been granted 44 U.S. patents and 25 non-U.S. patents and hold an exclusive license to
one U. S. patent. The U.S. patents we hold have expiration dates ranging from 2014 to
2023. We also have 24 U.S. patent applications pending and more than 70 applications
pending in other countries. Our patents and applications principally cover various aspects
of optical methods, optomechanical and mechanical algorithms, and integrated process
control implementation concepts.

To
protect our proprietary rights, we also rely on a combination of copyrights, trademarks,
trade secret laws, contractual provisions and licenses. Our copyrights include software
copyrights. We also enter into confidentiality agreements with our employees and some of
our consultants and customers, and seek to control access to and distribution of our
proprietary information, such as our proprietary algorithms.

While
we attempt to protect our intellectual property through patents, copyrights and
non-disclosure and confidentiality agreements, we may not be able to adequately protect
our technology. Competitors may be able to develop similar technology independently or
design around our patents and, despite our efforts, our trade secrets may be disclosed to
others. Furthermore, the laws of countries other than the U.S. may not protect our
intellectual property to the same extent as the laws in the U.S. We also cannot assure
that: (i) our pending patent applications will be approved; (ii) any patents granted will
be broad enough to protect our technology or provide us with competitive advantages or
will not be successfully challenged or invalidated by third parties; or (iii) that the
patents of others will not have an adverse effect on our ability to do business. We may
also have to commence legal proceedings against third parties to protect our intellectual
property, as we have done recently.

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In
March 2005, we filed a civil action in the United States District Court for the Northern
District of California against Nanometrics Inc. seeking to enforce our United States
Patent No. 6,752,689. This patent relates to an optical measuring system. In the civil
action, we seek an injunction against Nanometrics and its officers, employees, agents,
subsidiaries, representatives, distributors, dealers and all persons acting in concert and
participation with any of them from infringing patent No. 6,752,689, an accounting of any
and all infringing sales, monetary damages and costs and expenses. Nanometrics has filed a
counterclaim seeking judgment declaring the patent invalid and that Nanometrics does not
infringe the patent and awarding Nanometrics costs and fees. While we believe the patent
is valid and enforceable, if the patent is invalidated, our competitors will likely be
able to freely use the technology subject to the patent and our competitive position would
be harmed. This litigation is in the very early stages and we cannot predict the outcome
or the extent of any harm we may suffer if the patent is declared invalid. Furthermore,
while we have not as of this time incurred any material litigation costs in connection
with this litigation, it is likely that we will incur substantial costs in the future
which may be material. In addition, the litigation may divert managements time and
attention from other matters.

From
time to time, we receive communications from others asserting that our products infringe
or may infringe their intellectual property rights. Typically, our in-house patent counsel
investigates these matters and, where appropriate, retains outside counsel to provide
assistance. Presently, we are not involved in any material legal proceeds in which a third
party has asserted that we have violated their intellectual property rights.If,
however, we become involved in any such litigation and its outcome is adverse to us, it
may result in a loss of proprietary rights, subject us to significant liabilities,
including treble damages in some instances, require us to seek licenses from third parties
which may not be available on reasonable terms or at all, or prevent us from selling our
products. Furthermore, any litigation relating to intellectual property, even if we are
ultimately successful, could result in substantial costs and diversion of time and effort
by our management. This in and of itself could have an negative impact on us.

While
we are not currently involved in any material legal proceedings in which a third party has
asserted that we have violated their intellectual property rights, we have become aware of
a United States patent held by a competitor, which may be interpreted to cover some
aspects of the products we sell in the United States. Nonetheless, we have not received
any indications of intention to enforce this patent or any notice from the competitor with
respect to this patent. In addition, the patent is being reexamined by the United States
Patent and Trademark Office (USPTO), is unenforceable at this time, and may or
may not survive the reexamination. If the USPTO decides to allow the patent to stand in
some reexamined form, it is possible that the competitor could seek to enforce the patent
rights against certain of our products sold in the United States, seeking damages, an
injunction, or requiring us to pay royalties for a license. While we believe that we would
be successful in any litigation seeking to enforce those patent rights, the ultimate
outcome of any litigation or other legal proceedings cannot be predicted.

For
additional information regarding our intellectual property, SeeOur
Technology starting on page 19.

# Our Customers, Sales and
Marketing

Our
two pronged, integrated sales and marketing strategy involves marketing our products
directly to semiconductor manufacturers in addition to process equipment manufacturers in
order to create demand for our products. We believe that the pricing structure of our
NovaReady integration package enables process equipment manufacturers to increase their
margins, and that the quality of our systems can improve equipment yields, creating an
incentive for process equipment manufacturers to promote our products to semiconductor
manufacturers. At the same time, we believe that semiconductor manufacturers, eager to
improve their own margins through increased factory throughput and yield improvements,
will demand that the equipment they employ incorporate or use our metrology systems. We
believe that by marketing directly to end users as well as to process equipment
manufacturers, we are able to ensure that both parties are aware of the wide range of
benefits that our products can deliver.

To
further enhance our marketing efforts, we have established a system of integrated sales
and support activities with key process equipment manufacturers, including Applied
Materials, Ebara and Lam Research. This allows us to provide comprehensive and long-term
application support directly to semiconductor manufacturers. We expect to continue to add
new process equipment manufacturers to our roster as we introduce new integrated process
control systems that can be integrated with different types of equipment.

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We
also seek to establish and maintain close and mutually beneficial relationships with our
customers by consistently providing them with a high level of service, support and new
capabilities. We have established a global network of direct sales and marketing, customer
service and applications support offices. We maintain sales, service or applications
offices in Europe, Israel, Japan, Korea, Singapore, Taiwan, and the U.S., with a total
staff of 70 people. These offices provide highly qualified application support
specialists, training to process equipment manufacturer customers and end users,
marketing, demonstrations and evaluations, spare parts hubs and sales and support
engineers.

The
table below lists some of the largest semiconductor manufacturers who have multiple
installations of our systems in one or more sites. These users purchase our products
either directly from us or from process equipment manufacturers.

|                  |                   
|----------------- | ------------------
|
|
|
|
|Elpida            | TSMC              
|Infineon          | Intel             
|Micron            | STMicroelectronics
|Texas Instruments | Samsung           

Most
of these large semiconductor manufacturers using our systems have placed repeat orders for
our systems, which we attribute to the productivity improvements experienced by the
semiconductor manufacturers using our equipment, our on-site support of our equipment and
the advantages to semiconductor manufacturers of using equipment supplied by the same
vendor.

Our
customer base is also diverse in terms of both geographic location and types of integrated
circuits manufactured by those customers. Our end user and process equipment manufacturer
customers are located in different countries, including Japan, Korea, Singapore, Taiwan,
the U.S. and various European countries.

The
table below describes the distribution of our total revenues, from systems and services,
according to the geographic location of the actual installation of our systems in end-user
sites:

|       | Year ended December 31,
|------ | -----------------------
|
|
|
|
|U.S.   |                        
|Europe |                        
|Japan  |                        
|Other  |                        
|       |                        
|Total  |                        
|       |                        

The
semiconductor industry is dominated by a small number of large companies. As a result,
while our overall customer base is diverse, our sales are highly concentrated among a
relatively small number of customers. The following table indicates the percentage of our
total revenues derived from sales to our five largest customers and the range of these
revenues from these customers for the periods indicated.

|                            | Year ended December 31,
|--------------------------- | -----------------------
|
|
|
|
|Total revenues from five    |                        
|largest customers           | 81%                    
|                           
|Range of revenues from five
|largest customers           | 2%-33%                 

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We
anticipate that our revenues will continue to depend on a limited number of major
customers, although the companies considered to be our major customers and the percentage
of our revenue represented by each major customer may vary from year to year. As our
customer base is highly concentrated, if any of our customers becomes insolvent or has
difficulties meeting its financial obligations to us, we may suffer losses that may be
material in amount. A loss of any of our major customers may likewise cause us to suffer a
material decrease in sales and revenue.

# Our Competition

The
market for semiconductor capital equipment is highly competitive. Competitive factors in
the market for integrated process control systems include technological leadership, system
performance, ease of use, reliability, cost of ownership, technical support and customer
relationships. For integrated process control, an adequate business model, internal
organization and unique process equipment manufacturer agreements and partnerships are
also significant factors. We believe we compete favorably on the basis of these factors in
the markets we serve.

Our
current integrated products compete with products manufactured by Nanometrics Inc. We
believe that Dai Nippon Screen has ceased its activities in integrated metrology and
Sensys, which had been acquired by Therma Wave in 2002, has reduced its integrated
metrology activity to a minimum (selling a small number of optical critical dimension
systems to Tokyo Electron). Nanometrics had and an exclusive agreement with Applied
Materials, which we believe prevented Nanometrics from selling to other customers and had
expired in 2002. We currently sell more systems to Applied Materials than Nanometrics.
However, since the expiration of its exclusive agreement with Applied Materials,
Nanometrics has started to work with other CMP equipment manufacturers, such as Ebara. In
the last year, we have lost significant market share to our competitor with respect to
three major end-users customers. We believe we lost these sales mainly due to delays in
introducing our new deep ultraviolet capabilities. We introduced our deep ultraviolet
system in the first quarter of 2005. We expect our integrated products to face intense
competition in the coming years.

In
the scatterometry field, which is a new application field in the semiconductor industry,
we have intense competition in both integrated and stand-alone metrology. Our primary
competitors in this area are KLA-Tencor, Therma Wave, Nanometrics and Accent. Nanometrics
is our main competitor in this area as well because it provides optical critical dimension
systems, which have characteristics similar to our systems. In the software aspects of
scatterometry, which is a significant portion of the optical critical dimension business,
Timbre (a Tokyo Electron subsidiary), which provides optical critical dimension software
only, is a significant competitor that may also become a customer for our critical
dimension hardware.

Since
we have decided to put on hold our development and marketing efforts for overlay
measurement and macro inspection products, the competitive environment in the
photolithography metrology market is less important to us. The principal main system
suppliers in this market include KLA-Tencor, Accent, August and Rudolph Technologies.
Although we have not yet entered this market, we believe our overlay system being
developed for the sub-65 nm technology node will be competitive. We anticipate introducing
this system in 2006-7

Overall
in the integrated metrology market segment, beyond our current market of thin film
metrology, new market opportunities are evolving, and these are integrated metrology for
copper CMP and integrated metrology for photolithography and etch. In the first segment,
our main competitor is Nanometrics. Though currently our offering is unique, the
competitor might gain some market share based on their current installed base and
presence. For the Lithography and etch process segments, the integrated metrology is based
on a new and emerging technology  scatterometry. These offerings are based on
combined stand-alone and integrated offering. Competition is described above.

# Manufacturing

In
order to leverage the relatively high volume of integrated systems we manufacture and to
decrease production costs, we continue to focus our internal manufacturing activities on
processes that add significant value or require unique technology or specialized knowledge
and outsource others. Our manufacturing operations received the ISO 9002 quality mark by
an international certification institute in October 1999. We have upgrade our quality
systems to conform to ISO 9001/2000 requirements.

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Our
principal manufacturing activities include assembly, integration, final testing and
calibration. Our production activities are conducted in our manufacturing and service
facility in Israel. We rely and expect to continue to rely on subcontractors and turnkey
suppliers to fabricate components, build assemblies and perform other non-core activities
in a cost-effective manner. While we use standard components and subassemblies wherever
possible, most mechanical parts, metal fabrications and critical components used in our
products are engineered and manufactured to our specifications. A small portion of these
components and subassemblies are obtained from a limited group of suppliers, and
occasionally from a single source supplier.

We
have the capacity to produce up to 80 systems per quarter in our current facilities.
Currently, we are operating at approximately 50% of that capacity.

We
have only one manufacturing facility, which is located in Ness-Ziona, Israel. Any event
affecting this facility, including natural disaster, labor stoppages or armed conflict,
may disrupt or indefinitely discontinue our manufacturing capabilities and could
significantly impair our ability to fulfill orders and generate revenues.

# Our Subsidiaries

Our
subsidiaries and the countries of their incorporation are as follows:

|                                           |                         
|------------------------------------------ | ------------------------
|
|
|
|
|Name of subsidiary                         | Country of incorporation
|                                          
|Nova Measuring Instruments Inc.            | Delaware, USA           
|Nova Measuring Instruments K.K             | Japan                   
|Nova Measuring Instruments Taiwan Ltd.     | Taiwan                  
|Nova Measuring Instruments Netherlands B.V | Netherlands             

# Capital Expenditures

Our
capital expenditures are primarily for network infrastructure, computer hardware and
software, leasehold improvements of our facilities and system demonstration tools. None of
these assets are held as collateral or guarantee other obligations. For additional
information on our capital expenditures, see Liquidity and Capital Resources
starting on page 35.

# Our Properties and
Equipment

In
January 2002, we relocated our main office, research and development and production
facilities. These facilities, located in Ness-Ziona, Israel, occupy approximately 5,000
square meters, including: approximately 800 square meters of production facilities,
approximately 3,000 square meters of research and development offices (including
approximately 300 square meters of laboratories) and approximately 1,200 square meters of
headquarters, sales and marketing, service and support and administration facilities.
Originally, the new facilities were planned to be approximately 8,000 square meters,
however, due to the change in market conditions, we reduced this office space. Due to the
breach of part of our lease commitments associated with the move to the new building, we
incurred costs of approximately $1 million, charged to operations in 2001. Our current
lease commitment relating to the new building is until the end of 2007.

Our
U.S. subsidiary leases approximately 400 square meters in Arizona and 200 square meters in
Santa Clara for use as a pre sale and support facility. Our Japanese, Netherlands &
Taiwan subsidiaries lease approximately 100, 200, 300 square meters for use as a service
and pre sale facility, respectively.

We
believe that our facilities and equipment are in good operating condition and adequate for
their present usage.

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# Government Regulation

For
information relating to the impact of certain government regulations on our business,
SeeConditional Grants from the Office of the Chief Scientist starting
on page 37.

# Item 5. Operating and
Financial Review and Prospects

Information
in this Operating Review and Financial Prospects Section should be read in conjunction
with our Consolidated Financial Statements and notes thereto which are included elsewhere
in this report.

# Executive Overview

We
are a worldwide leading designer, developer and producer of integrated metrology systems
for the semiconductor manufacturing industry and a leading designer, developer and
producer of stand-alone metrology systems for the semiconductor industry. Our metrology
systems are used to take precise measurements of semiconductors during the manufacturing
process to control the manufacturing process and increase the productivity of the
manufacturing equipment. We market and sell our metrology systems to semiconductor process
equipment manufacturers, such as Applied Materials and Ebara, and directly to
semiconductor manufacturers, such as Intel, Samsung and AMD.

Our
business is greatly affected by the level of spending on capital equipment by
semiconductor manufacturers. Capital expenditures by semiconductor manufacturers tend to
be cyclical in nature and depend on numerous factors, many of which are beyond our
control. Factors affecting the semiconductor industry, which are beyond our control,
include general economic conditions throughout the world and the demand and perceived
demand for semiconductors. In addition, demand for our products and services is affected
by the timing of new product announcements and releases by us and our competitors, market
acceptance of our new or enhanced products and changes or advances in semiconductor design
or manufacturing processes.

Starting
in 2001, the semiconductor industry went through a severe downturn and manufacturers
greatly reduced their spending on capital equipment. Our results for 2001 and 2002 reflect
that downturn. In 2003, however, demand for semiconductors started to increase and, as a
result, demand for capital equipment by semiconductor manufacturers also increased.
Accordingly, our financial results for 2003 improved when compared to 2002. The recovery
of the semiconductor equipment industry that began in 2003 continued and accelerated in
2004 and we were profitable in 2004. The existing industry reports indicate a downturn in
2005. This downturn is reflected in our financial results for the first quarter of 2005,
in which we suffered a loss. Due to this loss and the expected down-turn, we have made
cost reduction efforts including head-count reduction of approximately 10% of our work
force. We cannot, however, predict with certainty whether the industry downturn will
continue during 2005 and in 2006.

We
derive our revenues principally from sales of our metrology systems and services relating
to our systems. In 2004, product sales produced 81.6% of our total revenues and services
produced 18.4%. Presently, we have no long-term debt and continue to finance our
operations mainly from the proceeds of our initial public offering in 2000. As of the end
of 2004, we had working capital of $25.1 million, including cash and cash equivalents,
short-term deposits and held to maturity securities of $22.7 million, and no long-term
debt.

From
quarter to quarter and from year to year, our revenues can vary significantly for a number
of reasons. Importantly, we do not have long-term or multi-unit purchase contracts with
our customers. Therefore, while most of our customers have purchased multiple systems from
us and we anticipate that our customers will continue to do so, our customers can
determine at any time to stop doing business with us. In addition, primarily because the
semiconductor industry is dominated by a small number of large companies, our customer
base is concentrated among a limited number of customers. A loss of any single customer
could cause our revenues to decrease by a material amount. Furthermore, because our
systems range in price from $100,000 to over $600,000, the loss of relatively few sales
could also cause our revenue to decrease by a material amount. Our service revenues, which
tend to be more predictable and less subject to wide fluctuations, tend to help decrease
volatility in our earnings.

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Our
service organization is operated on a profit and loss basis and is measured as a cost
center in each territory and on a global basis. The objectives of our service organization
are defined and measured by: customer satisfaction; quality parameters, such as time to
repair and mean time between failures; and by profit and loss criteria. The service
organization provides support to all products we sell, during both the warranty period and
the post warranty period.

When
evaluating the performance of the Company, our management tends to focus on several
financial metrics and several qualitative areas such as: warranty cost per system and
warranty costs as a percentage of sale price; costs of production and costs of production
as a percentage of sales; inventory as a percentage of yearly sales; days sales
outstanding; and the mixture of our sales and geographical distribution of installations
of our systems at end users sites compared to industry capital equipment trends. In 2004
and 2003, warranty costs ranged from 8% to 10% of sale price. Factors that affect warranty
costs include the number of systems installed in a specific site or territory and the
maturity of the products. Costs of production include materials, labor, and write-off per
product during product life time, and ranged from 31% to 42% of the sale price in 2004,
depending upon the system. Factors that affect cost of production include sales volume,
product configuration, product maturity, and actual sale price. Our average inventory
levels in 2004 and 2003 were approximately 14% of yearly sales. In year 2004, average days
sales outstanding for total revenues were 59, and ranged between 64 and 73 days over the
four quarters in 2004. Geographical distribution analysis of installation at end users
sites of our products reveals an increase in the installation of our products in Japan
from 7% of sales in 2003 to 18% in 2004 and in Asia-Pacific (excluding Japan) from 22% of
sales in 2003 to 38% in 2004. This trend is in line with the industry capital equipment
trend of higher investments in Japan and in the Asia-Pacific region in 2003 and 2004
compared to 2001 and 2002. In 2005, the Company intends to continue to focus on these
regions and seek to increase its market share in strategic accounts sites.

# Significant Events in
2004 and Outlook for 2005

For
Nova, the most significant events in 2004 were the penetration of the markets for etch and
copper process equipment with both stand alone and integrated process control solutions
and the delay of about 6 months in the introduction of the new NovaScan 3090 from the
second half of 2004 to the first quarter of 2005. As a result of the delayed introduction
of the new NovaScan 3090, we lost some of our market share to competitor and suffered a
decrease in our revenue and profits. The penetration with the new products and the general
recovery in the semiconductor industry in 2004 are reflected in our financial results,
which improved from loss in 2003 to profit in 2004. In addition, in 2004, our relationship
and integration with a major equipment manufacturer for the etch process led to several
joint evaluation processes in strategic accounts creating the potential for multiple
systems sales in the etch segment in 2005.

In
the first half of 2005, we have seen a mild slowdown in the semiconductor equipment
industry (DataQuest forecast for year 2005 is 12% decline relative to 2004). This trend,
together with the loss of three strategic end user accounts to our competition, was the
reasons for our 57% revenues decline in the first quarter of 2005 compared to the fourth
quarter of 2004. Recent semiconductor and industry projections, however, indicate the
industry is expected to return to growth in the last quarter of 2005. If the industry
returns to growth, we believe semiconductor manufacturers will seek to add capacity and
accelerate production, resulting in increased demand for capital equipment, including
metrology systems such as those we sell. We are also selling our NovaScan 3090 products in
several strategic accounts and we expect to regain market share in 2005.

Other
trends in the industry include the move toward more complex semiconductor devices and the
adoption of more sophisticated manufacturing techniques. We believe these trends are
positive developments for the semiconductor metrology market because, as semiconductors
and their manufacture become more complex and sophisticated, manufacturers will
increasingly look to make their operations more efficient. Metrology systems can help
deliver that efficiency. For additional information on industry trends, see Item 4
Information on the Company starting on page 10.

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Nova
will focus in 2005 on continuing development of its current chemical mechanical polishing,
(CMP), copper CMP and optical critical dimension systems as well as investing
in the products and technologies included in its long-term strategy. Over the next three
years, Nova anticipates introducing future generations of its current products and new
product to address the advancing technology trends toward feature sizes of 45 nm and below
and new processes and materials. We believe that in 2005, our opportunities will most
likely come from the increased need for monitoring and control resulting from decreasing
feature sizes, and the accelerating move to 300 mm equipment and new process materials.
The main challenges and risks we see are to be on time with the right process
control solutions to meet the needs of our existing customers and new customers. In order
to address these risk and challenges, we are working closely with leading customers
development process groups and with the leading process equipment manufacturers. The
purpose of working closely with customers and process equipment manufacturers is to
receive from them as early as possible information and feedback on the metrology and
process needs of the upcoming new manufacturing processes and materials. We believe
receiving this information as early as possible will assist us in developing metrology
solutions to meet the new needs of the semiconductor industry. In tandem with this type of
long term development, our ongoing marketing activity supports our current products with
short term improvements to answer the customers ongoing needs and to make required
changes.

Currently,
our main revenue generator is our oxide CMP product line and sales of our oxide CMP
product line are affected by the total number of process tools sold in this segment. In
years prior to 2003, the oxide CMP represented more than 50% of the entire CMP equipment
market. In 2004, this percentage decreased and we expect it to continue to decrease as
copper CMP equipment is expected to dominate the CMP equipment market. We can not foresee
what will ultimately be the process control needs for copper CMP, and whether the products
and solutions we will bring to market for the Copper CMP market will be accepted in the
market.

# Critical Accounting
Policies

Our
discussion and analysis of our financial condition and results of operations are based
upon our Consolidated Financial Statements, which have been prepared in accordance with
accounting principals generally accepted in the United States of America. We believe the
following critical accounting policies, among others, affect our more significant
judgments and estimates used the preparation of our Consolidated Financial Statements.

Use of estimates 
General

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 and disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.

Revenue recognition

We
recognize revenues upon the shipment of our products to the customer or provision of
support service, provided that persuasive evidence of an arrangement exists, title has
transferred, the price is fixed, collection of resulting receivables is probable and there
are no remaining significant obligations.

Adequate
provision is made, upon shipment, for estimated product returns and warranties. When
transactions involve newly introduced products or when customers specify acceptance
criteria that cannot be demonstrated prior to the shipment, we defer the relevant
revenues. We currently anticipate introducing several new systems in fiscal 2005. Delays
in introducing a product or delays in our ability to obtain customer acceptance, will
delay the recognition of revenue and gross profit by us.

Allowances for doubtful
accounts

We
review on an on-going basis the need for allowances for doubtful accounts for estimated
losses resulting from the inability or unwillingness of our customers to make required
payments. When determining what allowance, if any, to make for doubtful accounts, we
review many factors, including our history of relatively few write-offs, customer
relationships and customers creditworthiness. Based on this review, we estimate the
amount of accounts receivable, if any, we may be unable to collect and allowances for
doubtful accounts may be required. To date, based upon managements review, no
allowance for doubtful accounts was deemed necessary. If the financial condition of our
customers were to deteriorate, their ability to make payments could be impaired and our
estimates could prove to be inaccurate. If significant, allowances for doubtful accounts
could have a material adverse effect on our financial results.

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Warranty provisions

We
provide for the estimated cost of product warranties at the time revenue is recognized.
While we are engaged in extensive product quality programs and processes, including
actively monitoring and evaluating the quality of our component suppliers, our warranty
obligations are affected by product failure rates, material usage and service delivery
costs incurred in correcting product failures at our locations or at customer sites.
Should actual product failure rates, material usage or service delivery costs differ from
our estimates, revisions to the estimated warranty liability may be required.

Inventories write-down

We
value our inventory at the lower of the actual cost or the current estimated market value
of the inventory. We regularly review inventory quantities on hand and record a provision
for excess and obsolete inventory based primarily on our estimated forecast of product
demand and production requirements for the next twelve months. As demonstrated during 2000
and 2001, demand for our products can fluctuate significantly. A significant increase in
the demand for our products could result in a short-term increase in inventory purchases
while a significant decrease in demand could result in an increase in the amount of excess
inventory quantities on hand, which could lead to losses. In addition, our industry is
characterized by rapid technological change, frequent new product developments, and rapid
product obsolescence that could result in an increase in the amount of obsolete inventory
quantities on hand. Additionally, our estimates of future product demand may prove to be
inaccurate, in which case we may have understated or overstated the provision required for
excess and obsolete inventory. In the future, if our inventory is determined to be
overvalued, we would be required to recognize such costs in our cost of goods sold at the
time of such determination. Likewise, if our inventory is determined to be undervalued, we
may have over-reported our costs of goods sold in previous periods and would be required
to recognize such additional operating income at the time of sale. Therefore, although we
make every effort to ensure the accuracy of our forecasts of future product demand, any
significant unanticipated changes in demand or technological developments could have a
significant impact on the value of our inventory and our reported operating results.

For
a discussion of other significant accounting policies used in the preparation of our
financial statements and recent accounting pronouncements, see Note 2 to our Consolidated
Financial Statements contained elsewhere in this report.

# Operating results

Overview

A
significant portion of our revenues historically has been derived from customers in the
United States of America, and we expect that this trend will continue, although we expect
that U.S. sales as a percentage of total sales may decrease as our total sales and sales
to other geographic areas, particularly Asia, increase. In 2002, 61% of our revenues were
derived from U.S. customers, 16% were from European customers, 20% were from Japanese
customers, and 3% were from Asian (other than Japanese) customers. In 2003, 62% of our
revenues were derived from U.S. customers, 10% were from European customers, 21% were from
Japanese customers, and 7% were from Asian (other than Japanese) customers. In 2004, 39%
of our revenues were derived from U.S. customers, 12% were from European customers, 15%
were from Japanese customers, and 33% were from Asian (other than Japanese) customers.

The
table below describes the distribution of our total revenues, from systems and services,
by geographic areas of our product installations at semiconductor manufacturing
facilities. As our customers include both semiconductor manufacturers and process
equipment manufactures, this distribution is different from the distribution of our
revenues by customer location discussed in the immediately preceding paragraph.

|       | 2002 | 2003 | 2004
|------ | ---- | ---- | ----
|
|
|
|
|USA    |      |      |     
|Europe |      |      |     
|Japan  |      |      |     
|Other  |      |      |     
|       |      |      |     
|Total  |      |      |     

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Historically,
a substantial portion of our revenues has come from a small number of customers. In 2002,
2003 and 2004, our five largest customers accounted for 86%, 87 (not in correlation with
the information on page 5)% and 84% of our revenues, respectively. In 2002, 2003 and 2004,
our single largest customer accounted for 33%, 47% and 42% of our revenues, respectively.
We anticipate that our revenues will continue to depend on a limited number of major
customers, although the companies considered being major customers and the percentage of
our revenue represented by each major customer may vary from period to period. Therefore,
the loss of any one of our major customers could materially and adversely affect us.

The
sales cycle for our systems typically ranges from three to 24 months and depends upon the
status of our systems integration with a particular manufacture and model of process
equipment, the evaluation criteria of our customers, and the technology or application of
the process. Additionally, the rate and timing of customer orders may vary significantly
from month to month as a function of the introduction of a new type of system to a
production line. We have a relatively low backlog. Accordingly, if sales of our products
do not occur when we expect or we are unable to adjust our estimates on a timely basis,
our expenses and inventory levels may fluctuate relative to revenues and total assets. In
2004, our inventory levels at the end of each quarter ranged from $4.2 million to $5.2
million. We planned our inventory for 2004 for sales of 200 mm systems and 300 mm systems
according to our expectation that approximately 50% of equipment sales would be for 300 mm
equipment and that approximately 50% of our sales for 300 mm will be with NovaScan 3060.
At the end of 2004, the actual distribution of Nova sales was similar to our expectations
and therefore did not have material affect on our inventory levels or write-off. In the
future, if our actual sales are significantly different from our expectations, we may have
to write-off some of our inventory.

We
schedule production of our systems based upon order backlog and customer forecasts. We
include in backlog only those orders to which the customer has assigned a purchase order
number and for which delivery has been specified within 12 months. As of December 31, 2004
we had a backlog of two systems, representing $630,000. Because shipment dates may be
changed and customers may cancel or delay orders with little or no penalty, our backlog as
of any particular date may not be a reliable indicator of actual sales for any succeeding
period. We do not maintain any reserves for cancellations or variations in our
customers orders because historically cancellations and variations have been
insignificant. In addition, if a cancellation occurs, we may be able to sell the equipment
to other customers.

Our
revenues increased 53% in 2004 following increases of 31% in 2003 and a 4% decline in
2002. In comparison, overall, according to DataQuest December 2004 published research, the
semiconductor wafer front-end equipment industry increased 60% in 2004 over 2003,
following 5% increase in 2003, and 32% decline in 2002.

The
following table shows the relationship, expressed as a percentage, of the listed items
from our consolidated statements of operations to our total revenues for the periods
indicated:

|                                               | Percentage of Total Revenues
Year ended December 31,
|---------------------------------------------- | ----------------------------------------------------
|
|
|
|
|Revenues from products sale                    |                                                     
|Revenues from services                         |                                                     
|                                               |                                                     
|Total revenues                                 |                                                     
|                                               |                                                     
|Cost of products sale                          |                                                     
|Cost of services                               |                                                     
|                                               |                                                     
|Total cost of revenues                         |                                                     
|                                               |                                                     
|Gross profit                                   |                                                     
|                                               |                                                     
|Operating expenses:                            |                                                     
|Research and development expenses, net         |                                                     
|Technology for use in research and development |                                                     
|Sales and marketing expenses                   |                                                     
|General and administrative expenses            |                                                     
|Other operating income                         |                                                     
|                                               |                                                     
|Total operating expenses                       |                                                     
|                                               |                                                     
|                                               |                                                     
|Operating profit (loss)                        |                                                     
|                                               |                                                     
|Financing income, net                          |                                                     
|                                               |                                                     
|                                               |                                                     
|Net income (loss)                              |                                                     

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# Comparison of Years
Ended December 31, 2004 and 2003

Revenues.
          Our revenues in 2004 increased by $14.2 million, or 53.2%, compared to 2003,
          with revenues attributable to product sales accounting for $33.3 million, an
          increase of $12.2 million, or 57.7%, compared to 2003, and services accounting
          for $7.5 million, an increase of $2.0 million, or 36.1%, compared to 2003. The
          increase in product sales revenue in 2004 was attributed mainly to the general
          growth in the semiconductor industry and also to a moderate increase in revenues
          from our new products for etch and copper CMP. Revenues from services accounted
          for 18.4% of total revenues in 2004, as compared to 20.7% of total revenues in
          2003. The decrease in service revenues as a percentage of total revenues was
          attributed mainly to the increase in 2004 revenues from product sales.

We
expect that sales from our main integrated process control product line targeting the CMP
market, including dielectric and copper, will continue to account for a substantial
portion of our revenues for at least the next year, and that the new product lines sales
(integrated and stand-alone process control systems for lithography and etch) will
gradually become more significant as we introduce our next generation of metrology systems
for lithography and etch. As our revenues are largely dependent upon the sale of systems
for CMP processing, any decrease in demand for our CMP products would have a material
adverse affect on us. We expect service revenue to be at a similar level in 2005.

Cost
of Revenues and Gross Profit.Cost of revenues consists of the labor, material and
overhead costs of manufacturing our systems, and the costs associated with our worldwide
service and support infrastructure. It also consists of inventory write-offs and provision
for estimated future warranty costs for systems we have sold. Our cost of revenues
attributable to product sales in 2004 was $15.4 million, an increase of $5.1 million, or
49.6%, compared to 2003. This increase is attributable mainly to the increased volume of
systems sold. As a percentage of total revenues, our cost of revenues attributable to
product sales in 2004 decreased to 37.6% from 38.5% in 2003. This decrease is attributable
to the volume of sales and mixture of products sold. Inventory write-down did not have
significant affect on our cost of goods sold in 2003 and in 2004. Our cost of revenues
attributable to services in 2004 was $6.7 million, an increase of $0.4 million, or 7.2%,
compared to 2003.

Our
gross profit increased by 85.2% to $18.8 million in 2004 from $10.2 million in 2003. Our
gross profit represented 46.0% and 38.0% of our total revenues in 2004 and 2003,
respectively. Our gross profits increase from 2003 to 2004 is attributable to the higher
volume of systems sold and higher average sales price.

Research
and Development expenses, Net.Research and development expenses, net, consist
primarily of salaries and related expenses and also include consulting fees,
subcontracting costs, related materials and overhead expenses, after offsetting
conditional grants received or receivable from the Office of the Chief Scientist. Our
research and development expenses, net, increased 1.2% from $8.6 million in 2003 to $8.7
million in 2004, after offsetting conditional grants received or receivable from the
Office of the Chief Scientist of $2.3 million and $1.9 million in 2004 and 2003,
respectively. The grants increased from 2003 to 2004 due to additional development
programs initiated in 2004 which were approved by the Office of the Chief Scientist. While
our 2004 research and development expenses, net, were at levels similar to 2003, they
represented 21.2% and 32.1% of our revenues in 2004 and 2003, respectively, due to the
significant increase in our revenues in 2004.

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Approximately
$5.5 million of our research and development expenses, net, in 2004, resulted from our
research and development efforts relating to the introduction of new products and new
models of the NovaScan systems for the next manufacturing technology nodes. We believe
that meeting the needs of semiconductor manufacturers with respect to the manufacture of
semiconductors with features ranging from 90 nm to below 45 nm will allow us to maintain
our position as a market leader in integrated process control equipment (According to the
International Technology Roadmap for Semiconductors, ITRS, semiconductor
manufacturers began high volume manufacturing of semiconductors with 90 nm features in
2004, and 90 nm manufacturing is expected to be adopted widely in 2005 and 2006. ITRS also
indicates that high volume manufacturing of semiconductors with 65 nm features is expected
to begin in 2006). The balance of the research and development expenses, net, were related
to current products activities, such as engineering improvements, new versions of software
and application support and developments.

Sales
and Marketing.Sales and marketing expenses are comprised of salaries and related
costs for sales and marketing personnel, related travel expenses, and overhead. They also
include commissions to our representatives and sales personnel and royalties. Our sales
and marketing expenses increased 5.1% from $6.5 million in 2003 to $6.9 million in 2004.
Sales and marketing expenses represented 16.8% and 24.5%, respectively, of our revenues in
2004 and 2003. This decrease as a percentage of revenue is related to higher volume of
revenues in 2004.

General
and Administrative. General and administrative expenses are comprised of salaries and
related expenses and other non-personnel related expenses. Our general and administrative
expenses increased 22.8% from $1.9 million in 2003 to $2.3 million in 2004. This increase
is attributed mainly to increase of legal expenses and increased operation levels of the
company. General and administrative expenses represented 7.1% and 5.7% of our revenues in
2003 and 2004, respectively. The decrease in general and administrative expenses as a
percentage of revenues from 2003 to 2004 is a result of an increase in our revenues in
2004.

Other
Operating Income. During the fourth quarter of 2003, the Office of the Chief Scientist
approved the Companys request to allocate $2.2 million from the grants provided by
the Office of the Chief Scientist to a specific lithography project, to be repaid as
royalties only from sales of specific lithography products. As a result, the Company
canceled in 2003 a royalty provision, made mainly in prior years, in the total amount of
$2.2 million. The other income in the year 2003 represents this cancellation.

# Comparison of Years
Ended December 31, 2003 and 2002

Revenues.Our revenues in 2003 increased by $6.3 million, or 31.0%, compared to 2002,
          with revenues attributable to product sales accounting for $21.2 million, an
          increase of $6.6 million, or 45.8%, compared to 2002, and services accounting
          for $5.5 million, a decrease of $0.3 million, or 5.6%, compared to 2002. We
          believe the increase in product sales revenue was due to the beginning of a
          recovery in the semiconductor industry in the first half of 2003 which resulted
          in semiconductor manufacturers adding manufacturing capacity, leading to
          increased sales of our metrology products. We believe the semiconductor industry
          recovery in 2003 was driven by increased demand for semiconductors as a result
          of improving economic conditions worldwide, especially in the U.S. and Japan and
          the resulting increase in consumer spending, particularly for electronic
          devices. Revenues from services accounted for 20.7% of total revenues in 2003,
          as compared to 28.8% of total revenues in 2002. The decrease in service revenues
          as a percentage of total revenues was attributed mainly to the increase in 2003
          total revenues by 31.0% over total 2002 revenues.

Cost
of Revenues and Gross Profit.Cost of revenues consists of the labor, material and
overhead costs of manufacturing our systems, and the costs associated with our worldwide
service and support infrastructure. It also consists of inventory write-offs and provision
for estimated future warranty costs for systems we have sold. Our cost of revenues
attributable to product sales in 2003 was $10.3 million, an increase of $3.5 million, or
52.1%, compared to 2002. This increase is attributable mainly to the increased volume of
systems sold. As a percentage of total revenues, our cost of revenues attributable to
product sales in 2003 increased to 38.5% from 33.1% in 2002. This increase is attributable
to the volume of sales and mixture of products sold. Our cost of revenues attributable to
services in 2003 was $6.3 million, a decrease of $0.3 million, or 5.1%, compared to 2002.
This decrease is the result of a decrease in our service-related revenues and the
implementation of a cost-reduction plan in 2002.

- 34 -

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Our
gross profit increased by 44.7% to $10.2 million in 2003 from $7.0 million in 2002. Our
gross profit represented 38.0% and 34.5% of our total revenues in 2003 and 2002,
respectively. Our gross profits increase from 2002 to 2003 is attributable to the higher
volume of systems sold and cost reduction measures and adjustments to our manufacturing
and service and support operations to make them more compatible with current sales levels.

Research
and Development expenses, Net.Research and development expenses, net, consist
primarily of salaries and related expenses and also include consulting fees,
subcontracting costs, related materials and overhead expenses, after offsetting
conditional grants received or receivable from the Office of the Chief Scientist. Our
research and development expenses, net, decreased 13.5% from $9.9 million in 2002 to $8.6
million in 2003, after offsetting conditional grants received or receivable from the
Office of the Chief Scientist of $2.3 million and $1.7 million in 2003 and 2002,
respectively. The decrease in research and development expenses, net, is attributed mainly
to cost reduction steps that we took in 2001 and 2002, mainly significant workforce
reductions. We do not expect the workforce reductions to adversely impact our major
development plans and the introduction of new products. Research and development expenses,
net, represented 32.1% and 48.6% of our revenues in 2003 and 2002, respectively. This
decrease is the result of a decrease in net research and development expenses, as well as
an increase in our revenues in 2003.

Approximately
$5 million of our research and development expenses, net, in 2003, resulted from our
research and development efforts relating to the introduction of new products and new
models of the NovaScan systems for the next manufacturing technology nodes. The balance of
the research and development expenses, net, were related to current products activities,
such as engineering improvements, new versions of software and application support and
developments.

Sales
and Marketing.Sales and marketing expenses are comprised of salaries and related
costs for sales and marketing personnel, related travel expenses, and overhead. They also
include commissions to our representatives and sales personnel and royalties. Our sales
and marketing expenses decreased 6.0% from $7.0 million in 2002 to $6.5 million in 2003.
Sales and marketing expenses represented 34.1% and 24.5%, respectively, of our revenues in
2002 and 2003. This decrease is related to cost saving measures in our sales and marketing
operations.

General
and Administrative. General and administrative expenses are comprised of salaries and
related expenses and other non-personnel related expenses. Our general and administrative
expenses increased 5.5% from $1.8 million in 2002 to $1.9 million in 2003. This increase
is attributed mainly to the increased operating overhead, employee benefits and investor
relations activity. General and administrative expenses represented 8.8% and 7.1% of our
revenues in 2002 and 2003, respectively. The decrease in general and administrative
expenses as a percentage of revenues from 2002 to 2003 is a result of an increase in our
revenues in 2003.

Other
Operating Income. During the fourth quarter of 2003, the Office of the Chief Scientist
approved the Companys request to allocate $2.2 million from the grants provided by
the Office of the Chief Scientist to a specific lithography project, to be repaid as
royalties only from sales of specific lithography products. As a result, the Company has
canceled in 2003 a royalty provision, made mainly in prior years, in the total amount of
$2.2 million. The other income in the year 2003 represents this cancellation.

In
2002, the Company purchased technology for use in one of the Companys specific
research and development programs, which had no alternative use, for $1.5 million. This
amount has been charged to the statement of operations for the year ended December 31,
2002 in accordance with the principals set force in SFAS 2.

# Liquidity and Capital
Resources

As
of December 31, 2004, we had working capital of $25.1 million compared to working capital
of $30.3 million as of December 31, 2003. This decrease is attributed primarily to our
cash investments in long term assets during 2004 and to the increase in inventories and
accounts receivables during 2004. Cash and cash equivalents, short-term and long-term
deposits and securities held to maturity as of December 31, 2004 were $30.8 million
compared to $33.0 million as of December 31, 2003.

- 35 -

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Trade
accounts receivables increased from $5.8 million as of December 31, 2003 to $7.5 million
as of December 31, 2004. This increase is attributable mainly to the increase in our sales
during the second half of 2004 (2004 fourth quarter revenues were $10.8 million compared
to $8.1 million in the fourth quarter of 2003). Inventories increased from $4.2 million as
of December 31, 2003 to $5.2 million as of December 31, 2004. Typically, during periods of
revenue growth, our accounts receivable and inventories increase and represent a use of
cash as we expend cash to build inventory and produce and sell systems to customers in
advance of receiving cash payment from them.

Operating
activities in 2004 used cash of $1.5 million compared to $5.5 million used cash in 2003.
Operating activities in 2004 used less cash relative to 2003 mainly due to the transition
from losses in 2003 to profit in 2004. Financing activities generated $0.5 million of cash
in 2004, compared to $0.3 million in 2003.

The
following table describes our investments in capital expenditures during the last three
years:

|                               | 2004 | 2003 | 2002
|------------------------------ | ---- | ---- | ----
|
|
|
|
|Electronic equipment           |      |      |     
|Office furniture and equipment |      |      |     
|                               |      |      |     
|Leasehold improvements         |      |      |     
|                               |      |      |     
|                               |      |      |     
|                               |      |      |     
|Total                          |      |      |     

The
investment in capital expenditures was financed mainly from the cash reserves of the
Company. The increase in capital expenditures for electronic equipment in 2004 was due to
our investments in information systems improvements (software and hardware), electronic
equipment used in our research and development labs and systems for our demonstration
centers and application development. Although we currently have no significant capital
commitments, we expect to spend approximately $1.4 million on capital expenditures in the
next 12 months, mainly for information systems improvements (software and hardware),
electronic equipment used in our research and development labs.

We
currently have contractual obligations as described in the following table:

|                            | Total | Less than 1 year | 1-3 years | 3-5 years | More than 5
years
|--------------------------- | ----- | ---------------- | --------- | --------- | -----------------
|
|
|
|
|Operating Lease Obligations |       |                  |           | 4,713     |                  
|Purchase Obligations        |       |                  |           | 3,258     |                  
|Other Long Term Liabilities |       |                  |           | 232       |                  
|                            |       |                  |           |           |                  
|Total                       |       |                  |           | 8,203     |                  

Our
principal liquidity requirements are expected to be for working capital, research and
development, capital expenditures and lease payments for our worldwide facilities. We
believe that our current cash reserves and expected cash flow will be adequate to fund our
activities for at least the next 12 months.

Our
long-term capital requirements will be affected by many factors, including the success of
our current products, our ability to enhance our current products and our ability to
develop and introduce new products that will be accepted by the semiconductor industry. We
plan to finance our long-term capital needs with the remaining net proceeds of our initial
public offering, together with cash flow from operations, if any. If these funds are
insufficient to finance our activities, we will have to raise additional funds through the
issuance of additional equity or debt securities, through borrowing or through other
means. We cannot assure you that additional financing will be available on acceptable
terms.

- 36 -

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Presently,
we have no long-term debt, nor any readily available source of long-term debt financing
such as a line of credit.

With
regard to usage of hedging financial instruments and the impact of inflation and currency
fluctuations, see Quantitative and Qualitative Disclosures About Market Risk
starting on page 62.

# Off-balance sheet
arrangements

We
do not have and are not party to any off-balance sheet arrangements.

# Research and Development

For
information regarding our research and development activities, see Research and
Development starting on page 23.

# Conditional Grants from
the Office of the Chief Scientist

Under
the Law for the Encouragement of Industrial Research and Development, 1984, a qualifying
research and development program is eligible for conditional grants of up to 50% of the
programs expenses. The program must be approved by a committee of the Office of the
Chief Scientist of the Israeli Ministry of Industry and Trade. The recipient of the
conditional grants is required to return the grants by the payment of royalties on the
revenues derived from using the grants. Current regulations promulgated under the law
provide for the payment of royalties to the Office of the Chief Scientist ranging from 3%
to 6% on the revenues derived from using the conditional grants until 100% of the grants
are repaid. Conditional grants received under programs approved after January 1, 1999 will
accrue interest at an annual rate of the 12-month LIBOR applicable to dollar deposits.
Royalties are paid in NIS linked to the dollar at the exchange rate in effect at the time
of payment. Following the full payment of such royalties and interest, there is generally
no further liability for payment.

The
terms of the conditional grants under the law require that we manufacture in Israel the
products developed with these grants. These restrictions apply even after grants are fully
repaid. Under the regulations promulgated under the law, the products may be manufactured
outside Israel by us or by another entity and know-how may be transferred outside of
Israel, if prior approval is received from the Office of the Chief Scientist which may be
given only if we abide by all the provisions of the law and related regulations.
Ordinarily, as a condition to obtaining approval to manufacture outside Israel, we would
be required to pay increased royalties and as a condition to obtaining approval to
transfer know-how outside Israel, ordinarily we would be required to pay a lump sum, all
as defined under the relevant law. If we perform the manufacturing, the increased
royalties would ordinarily be one percentage point above the otherwise applicable royalty
rate. If the manufacturing is performed by an entity other than us, the rate would depend
on the amount of manufacturing performed outside of Israel and the size of the conditional
grants in relation to the investments made by us in the project. The total amount to be
repaid to the Office of the Chief Scientist would also be adjusted to between 120% and
300% of the conditional grants, depending on the manufacturing volume that is performed
outside Israel. If we wish to transfer know-how, the terms for approval shall be
determined according to the character of the transaction and the consideration paid to us
for such transfer. Approval of the transfer of technology may be granted only if the
recipient abides by all the provisions of the law and related regulations, including the
restrictions on the transfer of know-how outside of Israel and the obligation to pay
royalties in an amount that may be increased. Approval to manufacture products outside of
Israel or consent to the transfer of technology, if requested, might not be granted.

As
of December 31, 2004 we received conditional grants from the Office of the Chief Scientist
totaling $7.5 million. Because the implementation of regulations raising royalty rates to
between 3% and 6% has been deferred, we are obligated to pay royalties of 3% of revenues
derived from sales of products funded with these grants. As of December 31, 2004, our
contingent liability to the Office of the Chief Scientist for conditional grants received
was approximately $4.0 million. See also Note 7A to our consolidated financial statements
contained elsewhere in this report.

- 37 -

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The
funds available for Office of the Chief Scientist conditional grants were reduced for
2004, and the Israeli authorities have indicated that the government may further reduce or
abolish Office of the Chief Scientist grants in the future. Even if these conditional
grants are maintained, we might not receive Office of the Chief Scientist grants in the
future and cannot presently predict the amount of any grants we might receive.

In
addition to royalty-bearing grants from the Office of Chief Scientist, in 2004, we
participated in two programs sponsored by the Office of Chief Scientist. In one program,
we are a member of a research consortium comprised of several Israeli high technology
companies, which are engaged in the development of multimedia on-line technology. In the
other program, we are cooperating with a research institute in Israel for the development
of advanced measurement techniques. In both programs, the Office of Chief Scientist
contributes 66% of the approved research and development budget for the research
consortium and the members of the research consortium contribute the remaining 34%. No
royalties from this funding are payable to the Israeli government. Expenses in excess of
the approved budget are borne by the consortium members. In general, any consortium member
that develops technology as part of the consortium retains the intellectual property
rights to the technology developed by this member, and all the members of the consortium
have the right to utilize and implement such technology without having to pay royalties to
the developing consortium member. As of December 31, 2004, we had received approximately
$1.5 million in grants from the Office of Chief Scientist in connection with the
above-mentioned programs.

# Political and economic
conditions in Israel

The
Company is incorporated under the laws of Israel, and has its principal offices and
manufacturing facilities in Israel. The Company is, therefore, directly influenced by the
political, economic and military conditions affecting Israel. Any major hostilities
involving Israel, the interruption or curtailment of trade between Israel and its trading
partners or a significant downturn in the economic or financial condition of Israel could
have a material adverse effect on the Companys business, financial condition and
results of operations.

Political
Conditions. Since the establishment of the state of Israel in 1948, a number of armed
conflicts have taken place between Israel and its Arab neighbors and a state of hostility,
varying from time-to-time in intensity and degree, has led to security and economic
problems for Israel. However, a peace agreement between Israel and Egypt was signed in
1979, a peace agreement between Israel and Jordan was signed in 1994 and, since 1993,
several agreements between Israel and the Palestinian Authority representatives have been
signed. As of the date hereof, Israel has not entered into any agreement with Syria or
Lebanon. Currently there is stagnation in the peace process in the Middle East and ongoing
hostilities between Palestinian militant groups and Israel. The resumption of hostilities
in the region, which have occurred after the failure of Camp David peace talks, as well as
the events of September 11, 2001, and the ongoing tension in the region, has a negative
effect on the stability of the region. There can be no assurance as to whether or how the
peace process will develop or what affect it or these ongoing hostilities may
have upon the Company.

Beginning
in 1948, nearly all Arab countries have formally adhered to a boycott of Israel and
Israeli companies and, since the early 1950s, of non-Israeli companies doing business in
Israel or with Israeli companies. Attempts to ensure that Arab countries are complying
with this boycott have intensified due to recent hostilities between the State of Israel
and the Palestinians. Despite measures to counteract the boycott, including anti-boycott
legislation in the US, the boycott has had an indeterminate negative effect upon trade
with and foreign investments in Israel. Although in the past such attempts did not
materially affect us, there can be no assurance that restrictive laws, policies, or
practices directed toward Israel or Israeli businesses will not have an adverse impact on
the operation or expansion of the Companys businesses.

Due
to recent presence of the Israeli military in the territories previously transferred to
the control of the Palestinian authority, there were certain initiatives within the
institutions of the European Union to suspend the trade agreements entered into between
the State of Israel and members of the European Union. These initiatives culminated in a
resolution of the European Parliament recommending that the European Union members suspend
those trade agreements. It is uncertain whether such agreements will in fact be suspended,
but if such agreements are suspended, it may affect the Company ability to trade with
European companies.

- 38 -

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Military
Service. Generally, all male adult citizens and permanent residents of Israel under
the age of 45, or under the age of 40 with regard to certain units, are, unless exempt,
obligated to perform up to approximately 36 days of military reserve duty annually.
Additionally, all such residents are subject to being called to active duty at any time
under emergency circumstances. Some of the Companys officers and employees are
currently obligated to perform annual reserve duty. While the Company has operated
effectively under these requirements since it began operations, no assessment can be made
as to the full impact of such requirements on the Companys workforce or business if
conditions should change, and no prediction can be made as to the effect on Company of any
expansion or reduction of such obligations.

Economic
Conditions.Israels economy has been subject to numerous destabilizing factors,
including a period of rampant inflation in the early to mid-1980s that reached an annual
peak of 445%, low foreign exchange reserves, fluctuations in world commodity prices,
military conflicts and civil unrest. In the past, the Israeli economy has been in a
recession, and the Israeli government has, for these and other reasons, intervened in the
economy by utilizing, among other means, fiscal and monetary policies, import duties,
foreign currency restrictions and control of wages, prices and exchange rates. The Israeli
government periodically changes its policies in all these areas.

# Item 6. Directors,
Senior Management and Employees

The
following is the list of officers and directors:

|                     |     |                                                            
|-------------------- | --- | -----------------------------------------------------------
|
|
|
|
|Name                 | Age | Position                                                   
|Barry Cox*           | 65  | Chairman of the Board of Directors                         
|Giora Dishon         | 60  | President, Chief Executive Officer, Director and Co-Founder
|Moshe Finarov        | 53  | Chief Technology Officer, Director and Co-Founder          
|Micha Brunstein*     | 61  | Director                                                   
|Avi Kerbs *          | 58  | Director                                                   
|Joseph Ciechanover * | 71  | Director                                                   
|Alon Dumanis *       | 62  | Director                                                   
|Lauri Hanover *      | 45  | External Director                                          
|Karey Holland *      | 49  | External Director                                          
|Chai Toren *         | 49  | Vice President Finance, Chief Financial Officer            
|Gad Yaron *          | 54  | GM, Chief Operational Officer                              
|Ronen Frish *        | 48  | Vice President, Sales and Marketing                        

* Each one of these persons
beneficially owns less than one percent of the Companys ordinary shares.

Our directors (other than the
external directors) serve as such until the Companys next annual general meeting of
shareholders. Our external directors, in accordance with Israeli law, serve for a
three-year term, which may be renewed for only one additional three-year term. All of our
external directors were elected in 2000 and were reelected in 2003.

Mr.
          Barry L. Coxwas appointed Chairman of the Board of Directors of the Company
          in May, 2003.  Since September, 2000, Mr. Cox has worked with
          Lightspeed Venture Partners in various capacities.  Prior to Lightspeed,
          Mr. Cox was the Chairman of the Board of Quantum Effect Devices from 1998
          to 2000.  Mr. Cox was also the President and CEO of Weitek Corporation
          and ATEQ Corporation. Prior to ATEQ,  Mr Cox held various management
          positions with Intel Corporation, the last of which was President of Intel
          Europe.  Mr. Cox holds a BS degree in Engineering from the US Air
          Force Academy and an MBA from Boston University.

Dr.
          Giora Dishonis a co-founder of Nova and has served as President and Chief
          Executive Officer since Novas formation in 1993. From 1989 to 1993 he
          served as Thin Film and Flat Panel Display Product Line Manager at Orbot Systems
          and Orbotech Ltd., a manufacturer of automated optical inspection equipment.
          From 1986 to 1988 he was a Visiting Scientist at the Microelectronics Center of
          North Carolina, and from 1982 to 1986 he served as the Managing Director at AVX
          Israel Ltd., a manufacturer of electronic devices. Dr. Dishon holds a B.Sc. in
          Chemistry, a MSc. and a Ph.D. in Materials Science from the Hebrew University in
          Jerusalem.

- 39 -

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Dr.
          Moshe Finarovis a co-founder of Nova and a member of the board of
          directors. He has served as Chief Technology Officer of Nova since Novas
          formation in 1993. From 1989 to 1993 he served as Senior Physicist at Orbotech
          and from 1978 to 1988 he was employed at the ENIMS and PULSAR Institutes of
          Research in Moscow. Dr. Finarov holds a Ph.D. in Semiconductor Physics from
          Moscow University.

Dr.
          Micha Brunstein was elected as director of Nova during November 2003 by the
          other members of the board of directors. During the years 1990 to 1999, Dr.
          Brunstein served as a Managing Director of Applied Materials Israel Ltd. Prior
          to that, Dr, Brunstein served as President of Opal Inc. and as a Director of New
          Business development in Optrotech Ltd. At present, Dr. Brunstein serves as the
          chairman and board member of several Israeli companies. Dr. Brunstein holds
          B.Sc. in Mathematics and Physics from the Hebrew University, Jerusalem, and
          M.Sc. and Ph.D. degrees in Physics from the Tel Aviv University.

Mr.
          Avi Kerbshas served as a director of Nova since 1993. He serves as the
          president and chief executive officer of Teuza Management and Development Ltd.,
          the management company of Teuza-A Fairchild Technology Venture Ltd., a venture
          capital Company and has served in this capacity since 1991. Teuza-A
          Fairchild Technology Venture Ltd. is a major shareholder of Nova. He serves as a
          director of most of the companies comprising the investment portfolio of the
          Teuza Fund. Mr. Kerbs is also a director of DSS Inc., currently traded on
          Nasdaq Smallcap market and of Bioness Inc . Mr. Kerbs holds a B.Sc. in
          Industrial Engineering and Management and an M.Sc. in Management, both from the
          Technion, Israels Institue of Technology. Mr. Kerbs serves as a
          member of the Technions Board of Governors, is a Governor of the
          Haifa University Board of Governors and the Chairman of the Scientific Academic
          Club of the Haifa University.  Mr. Kerbs was originally appointed to
          our board of directors by Teuza.

Mr.
          Joseph Ciechanover has served as a director of Nova from October 1996 until
          December 1998 and again from February 2000 until the present. He is the founder
          and president of the Challenge Fund-Etgar L.P., a venture capital firm and
          served as chairman of the board of El-Al Israel Airlines from 1995 until
          2001. He served as a chairman of Israel Discount Bank from
          1986-1993 and the president and a member of the board of directors of PEC
          Israel Economic Corporation, a diversified investment company. Mr. Ciechanover
          holds a law degree from the Hebrew University in Jerusalem, an L.L.M. from the
          University of California at Berkeley and a Ph.D. in philosophy from Boston
          University.

Dr.
          Alon Dumanis, is the Chief Executive Officer of Docor International
          Management, a Dutch venture capital, subsidiary of The Van-Leer Group
          Foundation. Dr. Dumanis serves as a chairman or a member of various
          companies boards of directors.  Until 2004, he was also a member of
          the board of El-Al Israeli Airlines (TASE-LY) and the board of Inventech
          (TASE-IVTC). Previously, Dr. Dumanis was the Head of the Material Command in the
          Israel Air Force with the rank of Brigadier General. Dr. Dumanis currently
          serves as chairperson and member of several national steering committees and is
          the author of many papers published locally and internationally in a number of
          subject areas, including technology and management. Dr. Dumanis holds a Ph.D. in
          Aerospace Engineering from Purdue University in the United States.

Ms.
          Lauri Hanover has been a Director of the Company since 2000 and was
          appointed as the Companys external director in accordance with the
          provisions of Israeli law. Ms. Hanover has served as Senior Vice President
          and Chief Financial Officer of Lumenis Ltd. since 2004.  She previously
          served as Corporate Vice President and Chief Financial Officer of NICE Systems
          Ltd. from 2000 to 2004 and as Executive Vice President and
          Chief Financial Officer of Sapiens International Corporation N.V. from March
          1997 until 2000.  From 1984 to 1997, Ms. Hanover served in a variety of
          financial management positions, including Corporate Controller, at Scitex
          Corporation Ltd.  Ms. Hanover holds a bachelors degree in finance
          from the Wharton School of Business and a Bachelor of Arts degree from the
          College of Arts and Sciences, both of the University of Pennsylvania. Ms.
          Hanover also holds a masters degree in business administration from New
          York University.

- 40 -

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Dr.
          Karey Holland was appointed as the Companys external director in
          accordance with the provisions of Israeli law in 2000. Dr. Holland serves
          concurrently as Vice President, Technology at RimPAD America Inc., a materials
          manufacturer for the semiconductor industry, as Senior Managing partner of
          Techcet, a company providing strategic technical services in the semiconductor
          industry, and as a member of the board of directors of NanoBlox, a company
          developing carbon based nanoparticles for multiple industries. Prior to her
          current positions, Dr. Holland was employed for over five years by IPEC,
          semiconductor equipment manufacturing company, and later SpeedFam-IPEC, where
          she held the positions of Vice President of Process Technology and later Vice
          President and Chief Technological Officer. She worked for IBM from 1981 through
          1993 where she held several positions including Sematech Advanced Lithography
          Technology Development Program Manager, Process Technology Development Manager
          and Manufacturing Implementation Manager. After leaving IBM and before taking
          her position at IPEC, Dr. Holland spent nine months at Motorola in Manufacturing
          Planning for the Microprocessor and Memory Technology Group.  Dr. Holland
          holds a Ph.D. in analytical chemistry from Pennsylvania State University.

Mr.
          Chai Torenhas served as Chief Financial Officer of Nova since 1995. From
          1994 to 1995 Mr. Toren served as Chief Financial Officer of Zar Laboratories, a
          biotechnology company. From 1989 to 1994, he was employed as Project Manager of
          the Jerusalem Foundation, a non-profit organization. Mr. Toren holds a B.A. in
          Economics and Business Administration from the Hebrew University in Jerusalem.

Dr.
          Gad Yaron was appointed as Novas Chief Operational Officer in October
          2002, and has served as Novas Lithography Product Line Manager since 2000.
          From 1998 to 2000 he was New Applications Manager. From 1997 to 1998 he served
          as Director of Yield Management at Applied Materials Israel, a subsidiary of
          Applied Materials Inc. From 1988 to 1997 he served in various key engineering
          management positions at Intel Electronics Ltd. Dr. Yaron holds a Ph.D. in
          Experimental Semiconductor Physics from the Hebrew University in Jerusalem.

Mr.
          Ronen Frishhas served as Vice President, Sales and Marketing of Nova since
          1995. From 1993 to 1995, Mr. Frish served as Sales Manager at Digital Equipment
          Israel, a computer manufacturer. From 1987 to 1993 he held various sales and
          marketing management positions in Israel and in Europe at Orbot Systems and
          Orbotech. From 1981 to 1987 he served as a project manager at AREL Electronics.
          Mr. Frish holds a B.Sc. in Business Management from the Hebrew University in
          Jerusalem.

# Voting agreement

We
are not aware of any voting agreement currently valid.

# Compensation

The
aggregate direct remuneration paid or payable to all 12 persons who served in the capacity
of director or executive officer during 2004 was approximately $800,000, including
approximately $150,000, which was set aside for pension and retirement benefits and
including amounts expended by us for automobiles made available to our executive officers.

The
Company has approved the terms of remuneration to the external directors of the Company,
according to which the external directors shall receive remuneration comprised of: an
annual payment in the amount of NIS 34,122 (approximately $7,600) and an additional per
meeting payment of NIS 1,270 (approximately $300). Israeli Law determines these amounts,
and adherence to these amounts exempts the Company from the need to obtain the approval of
the Companys shareholders with respect to the remuneration paid to the external
directors.

On
November 7, 2001, the Companys shareholders approved payment of remuneration to the
Companys directors in the same amounts as mentioned above for the external
directors. The total amount paid or payable to the directors, including external
directors, for 2004 is $105,000. In 2003, this amount was $122,000.

As
of May 15, 2003, we entered into an agreement with Mr. Barry L. Cox according to which Mr.
Cox serves as chairperson of our board of directors. Under the agreement, Mr. Cox is
entitled to gross annual compensation of $50,000 as well as a one-time grant of an option
to purchase up to 50,000 ordinary shares of the Company, at the fair market value of the
shares at the time of grant. The option vests during a three year period so that a third
of the entire amount granted to Mr. Cox shall be exercisable upon each anniversary of the
grant.

- 41 -

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---

On
May 15, 2003, the Companys Board of Directors and Audit Committee resolved (i) that
the monthly gross salary of Dr. Dishon shall be increased to 44,000 NIS (approximately
$9,800) for the period February 1, 2003 through July 31, 2003 and increased to 50,000 NIS
(approximately $11,120) starting on August 1, 2003 and (ii) that the monthly gross salary
of Dr. Finarov shall be increased to 40,000 NIS (approximately $8,900) for the period
February 1, 2003 through July 31, 2003 and increased to 44,000 NIS (approximately $9,800)
starting on August 1, 2003. These changes in the terms of compensation for Drs. Dishon and
Finarov were approved by our shareholders on September 1, 2003.

On
January 30, 2004, the Companys Board of Directors and the Companys Audit
Committee approved the issuance of options to directors as set forth below.

|                   |                           |             
|------------------ | ------------------------- | ------------
|
|
|
|
|Name of directors  | Position                  | # of options
|Giora Dishon       | Director, CEO & President | 65,000      
|Moshe Finarov      | Director & CTO            | 55,000      
|Micha Brunstein    | Director                  | 10,000      
|Avi Kerbs          | Director                  | 10,000      
|Joseph Ciechanover | Director                  | 10,000      
|Alon Dumanis       | Director                  | 10,000      
|Lauri Hanover      | Director                  | 10,000      
|Karey Holland      | Director                  | 10,000      

These
grants were approved by the shareholders on March 31, 2004. The options were granted in
March 2004 and are subject to the terms and conditions of the Companys Option Plan
7A. The options vest over a period of between one and four years and their term may not
exceed seven years from the date of grant. The exercise price of these options is $5.15
per share.

On
November 10, 2004, the Companys Board of Directors and the Companys Audit
Committee approved the issuance of options to directors as set forth below.

|                   |                           |             
|------------------ | ------------------------- | ------------
|
|
|
|
|Name of directors  | Position                  | # of options
|Giora Dishon       | Director, CEO & President | 70,000      
|Moshe Finarov      | Director & CTO            | 60,000      
|Barry Cox          | Chairman of the board     | 10,000      
|Micha Brunstein    | Director                  | 10,000      
|Avi Kerbs          | Director                  | 10,000      
|Joseph Ciechanover | Director                  | 10,000      
|Alon Dumanis       | Director                  | 10,000      
|Lauri Hanover      | Director                  | 10,000      
|Karey Holland      | Director                  | 10,000      

- 42 -

---

---

These
grants are subject to shareholder approval which has not yet been obtained. The options
were granted in December 2004 and are subject to the terms and conditions of the
Companys Option Plan 7B. The options vest over a period of between one and four
years and their term may not exceed seven years from the date of grant. The exercise price
of these options is $3.40 per share.

# Board of Directors
Committees

The
Companys Board of Directors has appointed the following committees:

TheAudit Committee is comprised of four members. The members are Lauri Hanover, Karey
Holland, Joseph Ciechanover and Micha Brunstein. The functions of the audit committee
according to Israeli Law are to locate deficiencies in the business management of the
Company, among other things, in consultation with the Companys auditors and internal
auditors and to suggest to the Board of Directors the measures to be taken regarding such
deficiencies. The Audit Committee is also responsible for approving related party
transactions. In addition, as described under Item 16, the audit committee is responsible
for the approval of all audit and non-audit services provided to the Company by Deloitte
& Touche and Ernst & Young. The Audit Committee operates under a charter adopted
by the Board of Directors.

TheCompensation Committeeis comprised of Joseph Ciechanover, Lauri Hanover and Barry
Cox. The function of the compensation committee is described in the approved charter of
the committee, and includes determining the compensation of directors, senior management
and employees (subject to provisions regarding related party transactions).

TheInvestment Committeeis comprised of Lauri Hanover, Avi Kerbs and Joseph Ciechanover.
The function of the investment committee is described in the approved charter of the
committee, and includes reviewing and determining the cash investment policy of the cash
reserves of the Company.

TheNomination Committeeis comprised of Alon Dumanis, Karey Holland and Barry Cox. The
function of the nomination committee is described in the approved charter of the
committee, and includes reviewing the board structure and recommend nomination of new
board members.

# Employees

Set
forth below is a chart showing the number of people we employed at the times indicated.

|                              | as of December 31,
|----------------------------- | ------------------
|
|
|
|
|Total Personnel               |                   
|                              |                   
|Located in Israel             |                   
|Located abroad (mainly U.S.)  |                   
|                              |                   
|In operations                 |                   
|In research and development   |                   
|In sales and marketing        |                   
|In service and support        |                   
|In general and administration |                   

As
of December 31, 2004, we employed a total of 239 persons  worldwide,  not including 40
 independent contractors and temporary employees,  of which 82 were in research and
development,  40 were in operations,  80 were in  service  and  support,  and  testing,
 29 were in  sales  and  marketing  and 22 were in  general  and administration. As of
December 2004, 159 of our employees were based in Israel and 80 were located abroad.

- 43 -

---

---

Because
we were  adversely  affected by, and our first quarter 2005  financial  results  reflect,
 the general  slowdown in the  semiconductor  equipment market that started in 2005, we
implemented a cost-reduction plan in the first quarter, which included a reduction in
workforce.

We
are a member of the  Industrialists  Association  in Israel,  an employer's  union.  As a
result of this  membership,  a number of  collective  bargaining  agreements  apply to
us. These  agreements  principally concern cost of living wage  increases,  paid
 vacation and  holidays,  length of the  workday,  wage  tariffs, termination and
severance  payments.  We provide our employees with benefits and working conditions that
are at least as favorable as those found in the collective bargaining agreements.

Israeli
labor laws and regulations apply to all our employees  employed by Nova Measuring
 Instruments Ltd.  The laws  principally  concern  matters  such as paid  vacation,  paid
sick days,  length of the workday, payment for overtime and severance  payments  upon the
 retirement  or death of an employee or  termination  of employment.

Share ownership

Giora
Dishon,  President,  Chief Executive Officer and Co-Founder,  and Moshe Finarov, Vice
President, Director of Technology,  Director and  Co-Founder,  owned 697,977 and 646,941
 ordinary  shares of the Company, respectively,  as of April 30, 2005. All other
directors,  external  directors and senior  management each hold less than 1% of the
Company's  shares.  The following table sets forth  information  regarding  options held
by our directors and officers as of April 1, 2005

|Name                                     | Ordinary Shares
Underlying Options | Expiration Dates | Exercise Prices
($/share)
|---------------------------------------- | ---------------------------------- | ---------------- | -------------------------
|
|
|
|
|Giora Dishon (1)                         |                                    |                  |                          
|                                         |                                    |                  |                          
|Moshe Finarov (1)                        |                                    |                  |                          
|                                         |                                    |                  |                          
|10 directors and officers as a group (1) |                                    |                  |                          
|                                         |                                    |                  |                          

| | (1)
                     The vesting period of each option is between one and four years from
the date                     of grant according to the applicable option Plan.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------

At
December 31, 2004, options to acquire 5,730,822 ordinary shares had been issued under our
options plans, of which options to acquire 1,621,488 shares have been exercised, 478,956
have been terminated and forfeited and 1,575,108 were exercisable.

As
of December 31, 2004, we had seven employee share option plans that provided for the grant
of options to our employees, including senior management, to purchase an aggregate of
5,080,822 ordinary shares. The existing share option plans are described below (excluding
the first share option plan that was comprised of options to acquire 827,700 ordinary
shares, which have been fully exercised).

| |  | Option
Plan 2  Options to purchase 650,000 shares at an exercise price per share of NIS
0.01 (approximately $.0023); as of December 31, 2004, all options under this plan were
granted, 585,966 options were exercised, 38,578 options were exercisable and 25,456
options had been forfeited;
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Option
Plan 3  Options to purchase 387,000 shares at an exercise price per share of $3.17;
as of December 31, 2004, all options under this plan were granted, 65,277 options were
exercised, 276,500 options were exercisable and 45,223 options had been forfeited;
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Option
Plan 4  Options to purchase 668,350 shares at exercise price of $6.27 or $7.37 per
share; originally, this plan included 1,000,000 shares, and was reduced to 668,350 shares
by a decision of the Board of Directors of the Company. As of December 31, 2004, all
options under this plan were granted, 5,594 options were exercised, 471,837 options were
exercisable and 190,919 options had been forfeited;
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

- 44 -

---

---

| |  | Option
Plan 5  Options to purchase 746,500 shares at an exercise price of $1.13, $2.17 or
$2.46, the fair market value of Novas stock on the date of grant; as of December
31, 2004, all options under this plan were granted, 90,795 options were exercised,
425,816 options were exercisable and 106,793 options had been forfeited;
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Option
Plan 6  Options to purchase 960,000 shares at an exercise prices of $2.06, the fair
market value of Novas stock on the date of grant; as of December 31, 2004, all
options under this plan were granted, 12,156 options were exercised, 203,455 options were
exercisable and 77,675 options had been forfeited;
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Options
to purchase 116,272 ordinary shares at an exercise price of $5.16 per share; granted in
March 1999 to Mendy Erad, the Chairman of the Board at that time; as of December 31,
2004, 14,000 options were exercised and 102,272 options were exercisable;
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Options
to purchase an aggregate of 75,000 ordinary shares at an exercise price of $3.69 per
share granted to the members of our Board of Directors, other than our external
directors; as of December 31, 2004, 20,000 options were exercised, 30,000 options were
exercisable and 20,000 options had been forfeited;
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Options
to purchase 50,000 ordinary shares at an exercise price of $2.68 per share; granted in
May 2003 to Barry Cox, the Chairman of the Board; as of December 31, 2004, 16,666 options
were exercisable;
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Option
Plan 7A  Options to purchase 600,000 shares at an exercise prices of $4.01 and
$5.15, the fair market value of Novas stock on the date of grant; as of December
31, 2004, all options under this plan were granted, none were exercisable and 27,580
options had been forfeited; and
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Option
Plan 7B  Options to purchase 650,000 shares at an exercise price of $3.40, the fair
market value of Novas stock on the date of grant; as of December 31, 2004, all
options under this plan were granted, none were vested and none had been forfeited.
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

In
addition to the option plans described above, in 2003, the Company implemented an Employee
Stock Purchase Plan pursuant to which eligible employees of the Company may purchase up to
150,000 ordinary shares, subject to certain adjustments, at a discounted price. The
Company issued a total of 138,505 shares under this plan

The following table summarizes
information about share options outstanding as of December 31, 2004:

|Outstanding as ofDecember 31, 2004 | Exercisable as ofDecember 31, 2004
|---------------------------------- | ----------------------------------
|
|
|0.0025                             |                                   
|2.06                               |                                   
|2.46-3.69                          |                                   
|3.4                                |                                   
|4.01                               |                                   
|5.15                               |                                   
|5.16                               |                                   
|6.27-7.37                          |                                   
|                                   |                                   
|                                   |                                   
|                                   |                                   

- 45 -

---

---

# Item 7. Major
Shareholder and Related Party Transactions

# Major shareholders

The
following table shows the number of ordinary shares beneficially owned by persons known by
us to own beneficially more than five percent of the Companys ordinary shares, as of
April 30, 2005.

|Name                                            | Number of Ordinary
Shares Beneficially
Owned* | Percentage of
Ordinary
Shares
Beneficially Owned
|----------------------------------------------- | --------------------------------------------- | ------------------------------------------------
|
|
|
|
|Clal Electronics Industries Ltd. (1)            | 2,823,584                                     | 18.4%                                           
|Inventech Investments Co. Ltd.                  | 833,974                                       | 5.4%                                            
|Teuza - A Fairchild Technology Venture Ltd. (2) | 1,661,327                                     | 10.8%                                           
|Teuza Management & Development (1991) Ltd. (2)  | 1,661,327                                     | 10.8%                                           
|Austin W. Marxe & David Greenhouse (3)          | 2,094,277                                     | 13.6%                                           
|Tamir Fishman Ventures II, L.L.C. (4)           | 1,175,600                                     | 7.6%                                            
|Shai Saul (4)                                   | 1,175,600                                     | 7.6%                                            
|Michael Elias (4)                               | 1,182,850                                     | 7.7%                                            
|Tamir Fishman & Co. Ltd. (4)                    | 1,180,700                                     | 7.7%                                            
|Eldad Tamir (4)                                 | 1,180,700                                     | 7.7%                                            
|Danny Fishman (4)                               | 1,180,700                                     | 7.7%                                            
|Giora Dishon (5)                                | 812,014                                       | 5.2%                                            

* Unless specifically stated
otherwise, the information provided hereinabove is based upon information contained in
filings made by the named person with the U.S. Securities and Exchange Commission
(SEC) pursuant to Regulation 13D-G.

| | (1) | The following information is contained in Schedule 13D (Amendment No. 2) filed
               by, among others, Clal Electronics Ltd.: each of Clal Electronics Industries
               Ltd., Clal Industries and Investments Ltd., IDB Development Corporation Ltd.,
               IDB Holding Corporation Ltd., Nochi Dankner (Chairman of Clal Industries),
               Shelly Dankner-Bergman (Director of Clal Industries), Avraham Livnat and Ruth
               Manor reported having shared voting and dispositive control over 2,823,584
               shares.
| | --- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | (2) | As reported on the Schedule 13G (Amendment No. 3) filed by Teuza-A Fairchild
               Technology Venture Ltd. (TFTV) and Teuza Management &
               Development (1991) Ltd. (TMD) on February 13, 2004, TFTV and TMD
               each share voting power over 1,661,327 shares.
| | --- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | (3) | As reported on the Schedule 13G (Amendment 3) filed by Messrs. Marxe and
               Greenhouse on March 17, 2004, the amount indicated includes 477,178 shares held
               by Special Situations Cayman Fund, L.P., 70,831 shares held by Special
               Situations Technology Fund, L.P., 356,969 shares owned by Special Situations
               Technology Fund II, L.P. and 1,189,299 shares held by Special Situations Fund
               III, L.P.
| | --- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | (4) | The following information is contained in a Schedule 13G (Amendment No. 2) filed
               by, among others, Tamir Fishman Ventures II, LLC (TFV), on March 30,
               2005: (a) Five limited partnerships and a corporation directly beneficially own,
               in the aggregate, 1,175,600 shares; (b) TFV beneficially owns 1,175,600 shares
               as the sole general partner of the five limited partnerships and by virtue of
               its management rights with respect to a corporation ; (c) Shai Saul, is a
               managing member of TFV; (d) Michael Elias is a managing member of TFV and
               reports having sole voting and dispositive power over an additional 7,250
               shares; (d) Tamir Fishman & Co. Ltd is a managing member of TFV and reports
               directly owning 5,100 additional shares; (e) Eldad Tamir and Danny Fishman are
               each Co-President and Co-CEO of Tamir Fishman & Co. Ltd. The total number of
               shares beneficially owned collectively in this group is 1,182,850.
| | --- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

- 46 -

---

---

| | (5) | Includes shares held in trust under Israeli tax law for the benefit of the named
               shareholder and options to purchase 114,073 ordinary shares, which are currently
               exercisable or exercisable within 60 days of April 30, 2005.
| | --- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

All major shareholders have the same
voting rights.

Filings
by Capital Group International, Inc. with the SEC indicate that in 2004 it sold 774,800 of
our ordinary shares, representing approximately 5.1% of our outstanding ordinary shares.
In addition, public filings with the SEC indicate that Tamir Fishman Ventures II, L.L.C.,
Shai Saul, Michael Elias, Tamir Fishman & Co. Ltd., Eldad Tamir and Danny Fishman
acquired 281,000 of our ordinary shares, representing approximately 1.8% of our
outstanding ordinary shares. In addition, public filings indicate that in 2004 Inventech
Investments Co. Ltd. sold 331,247 ordinary shares. Between June, 2003 and April 2004, Clal
Electronics Ltd. and the entities identified in footnote one above, sold approximately
255,000 of our ordinary shares.

The
Company believes that, as of December 31, 2004, approximately 40% of its ordinary shares
were held by United States holders, and there were approximately 30 record holders in U.S.

# Control of Registrant

To
the Companys knowledge, it is not owned or controlled by a foreign government.
Except for the shareholders identified above owning more than ten percent of the
Companys ordinary shares, the Company has no knowledge of any corporation or other
natural or legal person owning a controlling interest in the Company.

# Related Party
Transactions

In
2002, the Company obtained directors and officers liability insurance for its
officers and directors with coverage in an aggregate amount of $5,000,000. This coverage
was renewed in 2003 and 2004. In addition, the Company undertook to indemnify the
Companys officers and directors up to an aggregate amount of $15,000,000 pursuant to
the terms set forth in an Indemnification and Exculpation Letter. The Indemnification and
Exculpation Letter also exculpates the officers and directors from certain liabilities
relating to their positions and directors and officers with in the framework allowed under
the Israeli Companys Law. The shareholders further approved our undertaking to
indemnify our officers and directors within the framework allowed under Israeli
Companys Law up to an aggregate amount of $15,000,000. Under the Companies Law, a
company is prohibited from undertaking to indemnify, to insure or to exempt its officers
or directors against: (i) breaches of fiduciary duty to the Company (other than with
respect to actions taken in good faith and upon reasonable grounds that such actions shall
not adversely affect the Company); (ii) breaches of the duty of care which were made
either intentionally or recklessly, unless if they were made negligently; (iii) an action
intended to produce unlawful personal profit; or (iv) a fine imposed upon the Officer. The
directors and officers insurance and Indemnification and Exculpation Letter, to the extent
applicable to directors, were approved by the Companys shareholders on October 31,
2002, covering acts and omissions made in their status as officers; worldwide (including
the US and Canada). Companys undertakings under the Indemnification and Exculpation
Letter are subject to its undertaking made under its F-1 according to which it shall not
be bound to indemnify and exculpate its directors and officers if such undertaking shall
be held contradictory to public policy under the ruling of a competent court.

As
of May 15, 2003 we entered into an agreement with Mr. Barry L. Cox according to which Mr.
Cox serves as chairperson of our board of directors. Under the agreement, Mr. Cox is
entitled to gross annual compensation of $50,000 as well as a one-time grant of options to
purchase up to 50,000 ordinary shares of the Company, at the fair market value of the
shares at the time of grant. The options vest during a three year period so that a third
of the entire amount granted to Mr. Cox shall be exercisable upon each anniversary of the
grant.

- 47 -

---

---

On
May 15, 2003, the Companys Board of Directors and Audit Committee resolved (i) that
the monthly gross salary of Dr. Dishon shall be increased to 44,000 NIS (approximately
$9,800) for the period February 1, 2003 through July 31, 2003 and increased to 50,000 NIS
(approximately $11,120) starting on August 1, 2003 and (ii) that the monthly gross salary
of Dr. Finarov shall be increased to 40,000 NIS (approximately $8,900) for the period
February 1, 2003 through July 31, 2003 and increased to 44,000 NIS (approximately $9,800)
starting on August 1, 2003. These changes in the terms of compensation for Dr. Dishon and
Dr. Finarov were approved by our shareholders on September 1, 2003.

On
January 30, 2004, the Companys Board of Directors and the Companys Audit
Committee approved the grant of options to directors as set forth in the following chart.

|                   |                           |             
|------------------ | ------------------------- | ------------
|
|
|
|
|Name of directors  | Position                  | # of options
|Giora Dishon       | Director, CEO & President | 65,000      
|Moshe Finarov      | Director & CTO            | 55,000      
|Micha Brunstein    | Director                  | 10,000      
|Avi Kerbs          | Director                  | 10,000      
|Joseph Ciechanover | Director                  | 10,000      
|Alon Dumanis       | Director                  | 10,000      
|Lauri Hanover      | Director                  | 10,000      
|Karey Holland      | Director                  | 10,000      

These
grants were approved by the shareholders on March 31, 2004. The options were granted
during March 2004 and are subject to the terms and conditions of the Companys Option
Plan 7A. The options vest over a period of between one and four years and their term may
not exceed seven years from the date of grant. The exercise price of these options is
$5.15 per share.

On
November 10, 2004, the Companys Board of Directors and the Companys Audit
Committee approved the issuance of options to directors as set forth in the following
chart.

|                   |                           |             
|------------------ | ------------------------- | ------------
|
|
|
|
|Name of directors  | Position                  | # of options
|Giora Dishon       | Director, CEO & President | 70,000      
|Moshe Finarov      | Director & CTO            | 60,000      
|Barry Cox          | Chairman of the board     | 10,000      
|Micha Brunstein    | Director                  | 10,000      
|Micha Brunstein    | Director                  | 10,000      
|Avi Kerbs          | Director                  | 10,000      
|Joseph Ciechanover | Director                  | 10,000      
|Alon Dumanis       | Director                  | 10,000      
|Lauri Hanover      | Director                  | 10,000      
|Karey Holland      | Director                  | 10,000      

- 48 -

---

---

These
grants are subject to shareholder approval which has not yet been obtained. The options
were granted in December 2004 and are subject to the terms and conditions of the
Companys Option Plan 7B. The options vest over a period of between one and four
years and their term may not exceed seven years from the date of grant. The exercise price
of these options is $3.40 per share.

# Item 8. Financial
Information

# Consolidated Financial
Statements

See
Financial Statements on page 65 of this report and pages F-1 through F-21.

# Significant Changes

In
the first quarter of 2005, the Company experienced a significant reduction in revenues,
attributed to the industry slowdown and to severe competition.

# Legal Proceedings

From
time to time, we are a party to legal proceedings and claims in the ordinary course of
business. We are not currently a party to any material legal proceedings.

In
1998, Intel Corporation (Intel), a major customer and former shareholder,
notified us by letter that a lawsuit had been filed against a number of semiconductor
manufacturers, including Intel, by the Lemelson Medical, Education & Research
Foundation. The suit alleged that these semiconductor manufacturers infringed upon U.S.
patents owned by Lemelson. In its 1998 letter, Intel requested that we defend, indemnify
and hold it harmless against the Lemelson claims to the extent the claims resulted from
the use of the products we sold to Intel. We did not undertake the defense or agree to
hold Intel harmless as it requested. Subsequently, in January 2004, in a suit filed
against Lemelson by Cognex Corporation,but not involving Intel or Nova, the United
States District Court for the District of Nevada found that various Lemelson patents,
including those upon which Lemelson based its claims against Intel, were invalid and not
enforceable. We, therefore, believe that we will not have any liability to Intel in
connection with the Lemelson suit against Intel and other semiconductor manufacturers. We
have, however, not received any formal communication from Intel withdrawing its request
for defense and indemnification.

In
March 2005, we filed a civil action against Nanometrics Inc. seeking to enforce our United
States Patent No. 6,752,689. For additional information, SeeIntellectual
Property starting on page 23.

# Dividend Policies

We
anticipate that, for the foreseeable future, we will retain any earnings to support
operations and to finance the growth and development of our business. Therefore, we do not
expect to pay cash dividends for at least the next several years.

We
obtained the status of approved enterprise under the Law for the Encouragement
of Capital Investments, 1959, under which we may take advantage of certain tax exemptions.
We may further obtain such status in the future. If we distribute a cash dividend from
income which is tax exempt, we would have to pay corporate tax at a rate of up to 25% on
the amount equal to the amount distributed and on the amount of corporate tax which would
have been due in the absence of the tax exemption, in addition to withholding tax on such
dividends paid. For further description of the conditions limiting our ability to declare
and pay dividends see Taxation starting on page 55.

- 49 -

---

---

The
distribution of dividends may also be limited by the Israeli Companies Law, which permits
the distribution of dividends only out of retained earnings or earnings derived over the
two most recent fiscal years, whichever is higher, provided that there is no reasonable
concern that payment of a dividend will prevent a company from satisfying its existing and
foreseeable obligations as they become due. Our Articles provide that dividends will be
paid at the discretion of, and upon resolution by, our Board of Directors however, the
Board of Directors at its discretion, may transfer the decision in this matter to the
general meeting.

# Export Sales

Substantially
all of our products are sold to customers located outside Israel.

# Item 9. The Offer and
Listing

# Offer and listing details

The
information presented in the table below presents, for the periods indicated, the reported
high and low closing sales prices on the Nasdaq National Market of our ordinary shares.
The shares began trading on the Nasdaq National Market on April 11, 2000 at a price of $18
per share. Our ordinary shares were registered for trading on the Tel Aviv Stock Exchange
in 2002 and the table below presents, for the periods indicated, the reported high and low
sales prices on the Tel Aviv Stock Exchange.

Nasdaq National Market

|                         |                | Price per share (US$)
|------------------------ | -------------- | ---------------------
|
|
|
|
|Yearly highs and lows    |                |                      
|2000                     |                | 21.94                
|2001                     |                | 10.97                
|2002                     |                | 4.54                 
|2003                     |                | 7.19                 
|2004                     |                | 8.21                 
|                        
|Quarterly highs and lows
|2003                    
|                         | First quarter  | 2.62                 
|                         | Second quarter | 4.30                 
|                         | Third quarter  | 5.78                 
|                         | Fourth quarter | 7.19                 
|2004                    
|                         | First quarter  | 8.20                 
|                         | Second quarter | 7.32                 
|                         | Third quarter  | 4.25                 
|                         | Fourth quarter | 4.63                 
|2005                    
|                         | First quarter  | 3.91                 
|                        
|Monthly highs and lows  
|2004                    
|                         | December       | 3.84                 
|2005                    
|                         | January        | 3.91                 
|                         | February       | 3.85                 
|                         | March          | 3.52                 
|                         | April          | 3.10                 
|                         | May            | 2.60                 

- 50 -

---

---

Tel Aviv Stock Exchange *

|                      | Price per share (NIS)
|--------------------- | ---------------------
|
|
|
|
|Yearly highs and lows |                      
|2002                  | 1,158                

* Since the fourth quarter of 2002,
there has been no market activity at the TASE.

# Item 10. Additional
Information

Set
forth below is a summary of certain provisions of the Companys memorandum and
articles of association, as amended to date, and Israeli law affecting shareholders of the
Company. This summary does not purport to be complete and is qualified in its entirety by
reference to our memorandum and articles of association and such law.

Registration.
          The Company was incepted and registered in the Israeli Registrar of
          Companys on May 17, 1993, under registration number 51-181-246-3.

Purpose
of the Company. The purposes of the Company, as provided by Article B(3) of our
memorandum and articles of association, are (a) to invent, design, plan, develop,
manufacture, market and trade in the field of measuring instruments in electronics,
micro-electronics, medicine, chemistry, metallurgy, ceramics and any other field, (b) to
initiate, participate, manage, execute, import and export any kind of project within the
borders of the State of Israel and/or outside Israel, (c) to register patents, trademarks,
trade names intellectual property rights marketing rights and any other right of any kind
whatsoever, both in Israel and abroad and (d) to engage in any legal activity, both in
Israel and abroad.

Approval
of Related Party Transaction; Corporate Borrowings.The Israeli Companies Law, to
which the company is subject, requires that an office holder of a company, including
directors and executive officers, promptly disclose to the board of directors of that
company any personal interest that the office holder may have and all related material
information known about any existing or proposed transaction with the company. The
approval of the board of directors is required, as long as the transaction is in the best
of the company, for a transaction that it not an extraordinary transaction,
between the company and its office holder or between the company and another person in
which the office holder has a personal interest, unless the articles of association
provide otherwise. If the transaction is an extraordinary transaction, it also
requires the approval of the audit committee prior to its being approved by the board of
directors. In the event that the transaction is between the company and a director
regarding the directors terms of engagement with the company, including with regard
to other positions in the company filled by the director and including with respect to
indemnification, insurance and exemptions, the transaction requires the approval of the
audit committee, the board of directors and the shareholders.

The
Companies Law applies the same disclosure requirements to a controlling shareholder of a
public company. A controlling shareholder is a shareholder who has the ability to direct
the activities of a company, including a shareholder that owns 25% or more of the voting
rights if no other shareholder owns more than 50% of the voting rights, but excluding a
shareholder whose power derives solely from his or her position on the board of directors
or any other position with the company. Approving an extraordinary transaction with a
controlling shareholder requires the approval of the companys audit committee, the
board of directors and the companys shareholders. Approval by the companys
shareholder must be by the affirmative vote of a majority of the shares attending in
person or by proxy and, in addition, at least one third of the holders of shares who do
not have personal interest in approving the transaction attending in person or represented
by proxy must vote in favor of the proposal, or the aggregate number of shares voted
against the proposal must not exceed one per cent (1%) of the Companys voting
rights.

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Under
our articles of association, a transaction by the Company with an officer or director of
the Company, in which transaction such officer or director has a personal interest, other
than an extraordinary transaction, does not require any board or shareholder approval.
Interested board members may not vote on extraordinary transactions. Arrangements
regarding the compensation of directors are considered extraordinary
transactions and require approval by the board of directors, audit committee and
shareholders. Arrangements as to compensation of officers employment terms require
approval only by the board of directors and audit committee.

Under
regulations promulgated under the Companies Law regarding payment of compensation to
external directors, compensation of external directors shall be comprised of annual
compensation ranging from NIS 26,000 to NIS 42,245 and a per meeting payment ranging from
NIS 915 to NIS 1,625. These amounts are adjusted twice a year in accordance with the
Israeli consumer price index. However, with regard to a company, which shares are traded
in an exchange outside of Israel, and is subject to laws which impose upon the external
directors demands which exceed the demands imposed upon them under Israeli law, the
maximum amount payable to the external directors is 100,000 NIS per annum and NIS 3,000
per meeting. The approval of the shareholders of the Company is required for such
compensation, unless it is at a fixed amount set forth in these regulations. Additionally,
external directors may entitled to compensation in stock (including by way of granting
options to purchase the Companys stock), provided that such compensation is granted
within the framework of a stock incentive plan applicable to all other directors and
further provided the amount of stock granted or purchasable shall not fall below the
lowest amount granted to any other director and shall not exceed the average amount of
stock granted to all other directors.

Our
articles of association grant broad powers to the board of directors to authorize the
Company to borrow funds, repay borrowings, make guarantees, and grant security interests
in borrowings. There is no mandatory retirement age for the Companys directors and a
director need not be a shareholder of the Company.

Share
Capital. The Company currently has one class of ordinary stock, 0.01 NIS par value per
share. Our articles of association provide that the board of directors may declare
dividends out of funds legally available therefor. Under the Israeli Companies Law,
dividends may be paid out of net earnings, as calculated under that law, for the two years
preceding the distribution of the dividend and retained earnings, provided that there is
no reasonable concern that the dividend will prevent the company from satisfying its
existing and foreseeable obligations as they become due. For more information, see the
Companys balance sheet and the statement of shareholders equity in the
financial statements. Each ordinary share is entitled to one vote of all meetings of
shareholders.

Changes
of Rights of Holders of the Ordinary Shares.The rights attached to the ordinary
shares may be changed, converted, expanded or altered in any other way by the shareholders
with the vote of the holders of at least 75% of the ordinary shares.

Shareholders
Meetings.An annual meeting shall be convened at least once every calendar year, and
no later than 15 months after the preceding annual meeting, to deliberate on the financial
reports, appointment of directors, appointment of an auditing accountant, and any other
matter which the board of directors places on the agenda of the annual meeting, at a time
and place that the board of directors shall determine. An extraordinary meeting may be
called by the board of directors and at the demand of any of the following: two directors
or one-quarter of the directors then serving; one or more shareholders who hold at least
five per cent of the issued and outstanding capital stock and at least one percent of the
voting rights in the Company; or one or more shareholders who hold at least five percent
of the voting rights in the Company.

According
to our articles of association, the quorum required for an ordinary meeting of
shareholders is at least two shareholders present in person or by proxy who together hold
or represent in the aggregate more than one third (33.33%) of the voting power. A meeting
adjourned for lack of a quorum is adjourned to the same day in the following week at the
same time and place or to a later date if said date is indicated in the prior written
notice or if the Company has sent to the shareholders a prior notice of no less than 72
hours before the date set for the postponed meeting. At the reconvened meeting, the
required quorum consists of any number of members present in person or by proxy,
regardless of the number of shares represented. Israeli Companies Law and regulations
determine that prior notice of no less than 21 days should be given the companys
shareholders, prior to convening a meeting.

There
are no limitations on the rights of non-resident or foreign owners to hold or vote
ordinary shares imposed under Israeli law or under the Companys memorandum or
articles of association.

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Board
of Directors.Our articles of association provide that directors may be
elected either at our annual general meeting or an extraordinary meeting of shareholders
by a vote of the holders of at least 50% of the total number of votes represented at such
meeting. In addition, our board of directors is authorized to appoint directors, at its
discretion, provided that the total number of directors shall not exceed the maximum
number of directors permitted by our articles of association. Each of our directors holds
office until the next annual general meeting of shareholders. However, in accordance with
the Israeli Companies Law, our external directors serve for three years. The Companies Law
requires that the offices of the Chief Executive Officer and the Chairman of the board of
directors be held by different persons. However, the Companies Law further provide that
those positions may be held by the same person for a period not exceeding three years if
approved by a majority of the companys shareholder, including at least two thirds of
the voting present shareholders (shares held by abstaining shareholders are not
considered) which are not controlling shareholders or the aggregate number of shares
voting against the proposal shall not exceed 1% of company voting shareholders.

External
directors may be elected at our annual general meeting or an extraordinary meeting of our
shareholders in a number and manner stipulated by law, namely, for a term of three years
which may be renewed for only one additional three year term and requires the affirmative
vote of a majority of the shares and in addition either that (i) at least one third
(33.33%) of the holders of shares who are not controlling shareholders attending in person
or represented by proxy have voted in favor of the proposal (shares held by abstaining
shareholders shall not be considered) or (ii) the aggregate number of shares voting
against the proposal has not exceeded 1% of the companys voting shareholders.
External directors may be removed from office only under the following circumstances: (i)
an external director ceases to meet the legal requirements for appointment as an external
director or breaches his or her fiduciary duty to the company and a resolution to remove
such external director is made by the shareholders at a meeting at which such external
director is granted a reasonable opportunity to express his position such a resolution
requires the same majority of votes that elected the external director)l (ii) an external
director ceases to meet the legal requirements for appointment as an external director or
breaches his or her fiduciary duty to the Company and a court orders that such director be
removed; or (iii) an external director is unable to perform his or her duties or is
convicted of certain felonies and a court orders that such director be removed.

An
amendment to the Companies Law, which is to be effective in the near future, requires that
an Israeli public company have at least two external directors are required to be
nominated as members of the board of director and at least one of the external directors
must have accounting and financial expertise. Other external directors must have certain
professional qualifications. Regulations are expected to be adopted giving specific
criteria for such expertise.

Our
board of directors has the authority to issue preferred stock in one or more classes or
series and to fix the voting powers, preferences and relative participating, optional or
other special rights of such preferred stock, without any further vote or action by the
shareholders, subject to specific events as detailed in our Articles of Association and
relevant rules.

Changes
in Capital. Our share capital may be increased or decreased by a vote of the holders
of at least 75% of the shares present at the shareholders meeting.

Acquisition
of a Controlling Stake.According to the CompanysLaw, an acquisition
pursuant to which a purchaser shall hold a controlling stake, that is defined
as 25% or more of the voting rights if no other shareholder holds a controlling stake, or
an acquisition pursuant to which such purchaser shall hold 45% or more of the voting
rights of the company if no other shareholder owns more than 45% of the voting rights, may
not be preformed by way of market accumulation, but only by way of a tender offer made to
all of the companys shareholders on a pro rata basis. Such offer needs to be
approved by the companys shareholders. A shareholder may be free to object to such
offer without such objection being deemed as waiver of his right to sell its respective
shares if the transaction is approved by a majority of the companys shareholders
despite his objection. Shares purchased not in accordance with those provisions shall
become dormant shares and shall not grant the purchaser any rights so long as
held by the purchaser.

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Merger.
          The Companies Law requires an acquirer of a public companys shares who
          wishes to acquire all of the companys shares without the approval of its
          minority shareholders to acquire at least 95% of all outstanding shares. Even if
          the acquirer acquires 95% of the outstanding shares, the remaining minority
          shareholders may seek to block the acquisition in court.

The
Companies Law provides that corporate mergers require the approval of both companies
boards of directors and shareholders. In the event, however that shares of the target
company are held by the acquiring company or by a person holding 25% or more of any type
of controlling means of the acquiring company, the merger will not be approved if a
majority of the shareholders of the target company attending and voting at the meeting at
which the merger is considered (without taking into account, for that purpose, the shares
held by the acquiring company or by a person holding 25% or more of any type of
controlling means of the acquiring company) object to and do not vote in favor of the
merger. If a person holds 25% or more of any type of controlling means of more than one
merging company, the same provisions shall apply with regard to the shareholders
vote with respect to each such company. Upon the request of a creditor of either party to
the proposed merger, the Israeli courts may delay or prevent the merger if the courts
conclude that there exists a reasonable concern that as a result of the merger the
surviving company will be unable to satisfy the target companys obligations.
Furthermore, a merger may not close unless at least 30 days have passed from the time that
the general meeting of each ofthe merging companies was held and at least 50 days
have passed from the date on which the merger proposal was sent to the Israeli Registrar
of Companies.

In
addition, the Companies Law preserves provisions of its predecessor, the Companies
Ordinance, dealing with arrangements between a company and its shareholders. These
arrangements may be used to effect squeeze out transactions in which the target company
becomes a wholly owned subsidiary of the acquirer. These provisions generally require that
the merger be approved by at least 75% of the shares of participating shareholders and a
majority of the shareholders voting at a shareholders meeting. In addition to shareholder
approval, court approval of the transaction is required, which entails further delay.

A
merger, the acquisition of a controlling stake or any transaction in which all or
substantially all the assets of a company are de facto transferred to another company, may
require the approval of the Israeli Commissioner of Restrictive Trade Practices, in the
event that the aggregate annual sales volume in Israel of all the companies which are
parties to such transaction, exceeds 150,000,000 NIS (approximately $33,000,000, an amount
which is adjusted on an annual basis), and also if after the consummation of such
transactions, the joint market, in Israel, or at any identified geographic part of Israel
will be in excess of 50% with respect to such products and services.

# Material Contracts

Lease
Agreement between Nova and Ef-Shar Ltd. dated May 28, 2000 for Novas facilities in
Israel. A summary of this lease is provided at Exhibit 4.13. For summaries of compensation
arrangements with officers and directors, see Related Party Transactions
starting on page 47.

# Exchange Controls

Non-residents
of Israel who purchase our ordinary shares outside of Israel with U.S. dollars or other
foreign currency will be able to convert dividends (if any) thereon, and any amounts
payable upon the dissolution, liquidation or winding up of the affairs of the Company, as
well as the proceeds of any sale in Israel of the ordinary shares to an Israeli resident,
into freely repatriable dollars, at a rate of exchange prevailing at the time of
conversion, pursuant to regulations issued under the Currency Control Law, 1978, provided
that Israeli income tax has been withheld by the Company with respect to such amounts.
Israeli residents are eligible to purchase securities of certain companies, including our
ordinary shares, if they are listed on a foreign exchange in a designated country, which
is defined to include the Nasdaq.

# Taxation

The
following summary describes the current tax structure applicable to companies in Israel,
with special reference to its effect on us. It also discusses Israeli tax consequences
material to persons holding our ordinary shares. Because some parts of the summary are
based on new tax legislation yet to be judicially or administratively interpreted, we
cannot be sure that the views expressed will accord with any future interpretation. The
summary is not intended, and should not be construed, as legal or professional tax advice
and does not exhaust all possible tax considerations. Accordingly, you should consult your
own tax advisor as to the particular tax consequences of an investment in our ordinary
shares.

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# Tax Reform

During
the year 2002, tax reform legislation was enacted with effect from January 1, 2003, which
significantly changed the taxation basis of corporate and individual taxpayers from a
territorial basis to a worldwide basis. From such date, an Israel resident taxpayer will
be taxed on income produced and derived both in and out of Israel. The main provisions of
the tax reform that may affect the Company are as follows:

Transfer
pricing of international transactions with related parties.The Income Tax Ordinance
was amended to include provisions concerning transfer pricing between related parties,
where one of the parties is situated abroad. Detailed provisions are to be included in
Income Tax Regulations that have yet to be issued. Although the Company considers that the
transfer pricing policy adopted with foreign affiliates is economically fair, an
adjustment may be required following the issue of the said Regulations.

Employee
stock incentive plans.The tax reform codified past practice and determined three
alternative tracks for taxing employee stock option plans. Where a trustee arrangement is
in place, the employer can either claim an expense for tax purposes while the employee
will be fully taxed up to the maximum marginal tax rate of 50% or the Company can waive
the tax expense and the employee will pay a reduced tax rate of 25%. Where there is no
trustee arrangement, the employee is fully taxable and no expense is allowed to the
Company. There are detailed provisions for implementing these tracks. For Option Plans 6
and 7, which were allocated after the implementation of the tax reform, the Company has
used the trustee arrangement, with waiver of the tax expense for the company and employee
payment of reduced tax rate of 25%. As a result of the reform, the income tax authorities
allowed the Company a change of tracks with regard to unvested options issued under option
plans prior to the tax reform taking effect, subject to the optionees agreeing to certain
restrictions.

Controlled
foreign company (CFC).The amendment to the law introduced Controlled Foreign Company
(CFC) provisions, which, in certain circumstances, will lead to the Israeli company being
charged tax on passive income of foreign affiliates as if it had received a dividend from
such companies. This change is not expected to have material affect on the companys
financial results and tax payments.

Capital
gains tax.Capital gains tax is reduced to 25% from 36%, except with respect to
capital gains from marketable securities, with transitional provisions for assets acquired
prior to January 1, 2003. For further discussion see below Capital Gains Tax.

Carrying
forward of capital losses.The seven year limit for carrying forward of capital losses
has been removed with respect to capital losses arising from 1996 and thereafter. This
change is not expected to have material affect on the companys financial results and
tax payments.

# General Corporate Tax
Structure

Israeli
companies are taxed at a rate of 36% of taxable income. In 2004 the Israeli Knesset
approved a law for the amendment of the Income Tax Ordinance, according to which the
regular corporate tax rate is to be reduced gradually and annually from 36% to 35% for
2005 tax year ending in 30% for 2007 tax year. However, the effective tax rate payable by
a company that derives income from an approved enterprise may be considerably less, as
further discussed below.

Tax Benefits under the Law for the
Encouragement of Capital Investments, 1959

The
Law for the Encouragement of Capital Investments, 1959, provides that upon application to
the Investment Center of the Ministry of Industry and Commerce of the State of Israel, a
proposed capital investment in eligible facilities may be designated as an approved
enterprise. Each certificate of approval for an approved enterprise relates to a
specific investment program delineated both by its financial scope, including its capital
sources, and by its physical characteristics, such as the equipment to be purchased and
utilized under the program. The tax benefits derived from this certificate of approval
relate only to taxable income derived from growth in operations as determined generally by
the growth in manufacturing revenues attributable to the specific approved enterprise. If
a company has more than one approval or only a portion of its capital investments are
approved, its effective tax rate is the result of a weighted combination of the applicable
rates. The tax benefits under the law are not available for income derived from products
manufactured outside of Israel.

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Taxable
income of a company derived from an approved enterprise is taxed at the maximum rate of
25%, rather than the usual rate of 35% (or less as described above), for the benefit
period. This period is ordinarily seven years commencing with the year in which the
approved enterprise first generates taxable income, and is limited to 12 years from the
year of commencement of operations, as determined by the Investment Center, or 14 years
from the year of approval, whichever is earlier.

A
company owning an approved enterprise may elect to receive an alternative package of
benefits. Under the alternative package, the companys undistributed income derived
from an approved enterprise will be exempt from tax for a period of between two and ten
years from the first year of taxable income, depending on the geographic location of the
approved enterprise within Israel, subject to the 12- and 14-year limitations, and the
company will be eligible for the tax benefits under the law for the remainder of the
benefits period.

A
company that has an approved enterprise program is eligible for further tax benefits if it
qualifies as a foreign investors company. A foreign investors company is a
company more than 25% of whose share capital and combined share and loan capital is owned
by non-Israeli residents. A company, which qualifies as a foreign investors company
and has an approved enterprise program is eligible for tax benefits for a ten-year benefit
period instead of the ordinary seven-year period. Income derived from the approved
enterprise program will be exempt from tax for a specified period and will be taxed at a
reduced rate for the rest of the period. The tax rate for the additional eight years is
25%, unless the level of foreign investment exceeds 49%, in which case the tax rate is 20%
if the foreign investment is more than 49% and less than 74%, 15% if more than 74% and
less than 90%, and 10% if 90% or more.

The
Investment Center bases its decision of whether to approve or reject a companys
application for designation as an approved enterprise on criteria set forth in the law and
related regulations, the then prevailing policy of the Investment Center and the specific
objectives and financial criteria of the applicant. Accordingly, a company cannot be
certain in advance whether its application will be approved. In addition, the benefits
available to an approved enterprise are conditional upon compliance with the conditions
stipulated in the law and related regulations and the criteria set forth in the specific
certificate of approval. In the event that a company violates these conditions, in whole
or in part, it would be required to refund the amount of tax benefits plus an amount
linked to the Israeli consumer price index and interest.

A
major portion of our production facilities has been granted the status of approved
enterprises. Income arising from our approved enterprise facilities is tax-free under the
alternative package of benefits described above and entitled to reduced tax rates of up to
25%, based on the level of foreign ownership for specified periods. We have derived, and
expect to continue to derive, a substantial portion of our income from our approved
enterprise facilities. In general, the benefits for most of our current production
facilities in Israel will continue until termination in 2006. Our current investments in
facilities are made under new approvals, the benefits of which will continue no longer
than 2012.

An
approved enterprise may elect to distribute dividends from taxable or tax-exempt income.
Dividends distributed from taxable income are considered to be attributable to the entire
taxable income of the enterprise and their effective tax rate is the result of a weighted
combination of the applicable tax rates. We currently intend to reinvest the amount of our
income and not to distribute such income as a dividend. In the event that we do pay a cash
dividend from income that is derived from our approved enterprises under the alternative
package of benefits, which income would normally be tax-exempt, we would be required to
pay tax on the amount intended to be distributed as dividends at the rate which would have
been applicable had we not elected the alternative package of benefits, generally 10% to
25%, depending on the percentage of our shares held by foreign shareholders. The dividend
recipient is taxed at the reduced rate of 15% applicable to dividends from approved
enterprises if the dividend is distributed during the tax-exemption period or within 12
years thereafter. We would be required to withhold this tax at source, as final tax in
Israel. See U.S. Taxation  Distributions on the Ordinary Shares and Note
11 to our Consolidated Financial Statements.

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The
law also provides that an approved enterprise is entitled to accelerated depreciation on
property and equipment included in an approved investment program, generally ranging from
200% for equipment, to 400% for buildings, of ordinary depreciation rates during the first
five tax years of the operation of these assets with a ceiling of 20% per year for
depreciation on buildings.

# Tax Benefits for
Research and Development

Israeli
tax law allows a tax deduction in the year incurred for expenditures, including capital
expenditures, in scientific research and development projects, if the projects are
approved by the relevant Israeli government ministry and the research and development is
for the promotion of the enterprise. Expenditures from projects not so approved are
deductible over a three-year period. However, expenses made out of proceeds made available
to us through government grants are not deductible according to Israeli law.

Tax Benefits under the Law for the
Encouragement of Industry (Taxes), 1969

According
to the Law for the Encouragement of Industry (Taxes), 1969, an industrial
company is a company located in Israel, of which at least 90% of the income,
exclusive of income from defense loans, capital gains, interest and dividends, is derived
from an industrial enterprise owned by it. An industrial
enterprise is defined as an enterprise whose major activity in a given tax year is
industrial production activity. We believe that we currently qualify as an industrial
company within the definition of the Law for the Encouragement of Industry (Taxes), 1969.

Under
the law, industrial companies are entitled to the following preferred corporate tax
benefits:

| |  | deduction
of purchases of know-how and patents over an eight-year period for tax purposes;
| | - | ------------------------------------------------------------------------------------------

| |  | deduction
of specified expenses incurred in connection with a public issuance of securities over a
three-year period for tax purposes, although Israeli tax authorities have indicated that
they do not allow these deductions in connection with offerings outside of Israel;
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | an
election to file a consolidated tax return with related Israeli industrial companies that
satisfy conditions set forth in the law; and
| | - | -----------------------------------------------------------------------------------------------------------------------------------------

Additionally,
certain tax laws and regulation allow accelerated depreciation rates on equipment and
buildings for industrial companies while referring to the definition of industrial
company set out by the Law for the Encouragement of Industry (Taxes), 1969.

Eligibility
for the benefits under the law does not require receipt of prior approval from any
governmental authority. However, the Israeli tax authorities may determine that we do not
qualify as an industrial company. In addition, we might not continue to qualify as an
industrial Company in the future. As a result of either of the foregoing, the benefits
described above might not be available in the future.

# Special Provisions
Relating to Taxation Under Inflationary Conditions

The
Income Tax Law (Inflationary Adjustments) (the Inflationary Adjustments Law),
1985 represents an attempt to overcome the problems presented to a traditional tax system
by an economy undergoing inflation. The law is highly complex. Its features that are
material to us can be described as follows:

| |  | A
special tax adjustment for the preservation of equity whereby corporate assets are
classified broadly into fixed, or inflation immune assets and non-fixed, or soft assets.
Where a companys equity exceeds the depreciated cost of its fixed assets, the
company may take a deduction from taxable income, including tax-exempt income, that
reflects the effect of multiplication of the annual rate of inflation on this excess, up
to a ceiling of 70% of taxable income, including tax exempt income, in any single tax
year, with the unused portion carried forward on a linked basis. If the depreciated cost
of fixed assets exceeds a companys equity, then the excess multiplied by the annual
rate of inflation is added to taxable income.
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

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| |  | Depreciation
deductions on fixed assets and losses carried forward are generally adjusted for
inflation based on the increase of the Israeli consumer price index.
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Gains
on traded securities, which are normally exempt from tax, are taxable in specified
circumstances. However, the regular tax rules governing business income in Israel apply
to dealers in securities.
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

In
accordance with an amendment to the Inflationary Adjustments Law, the Minister of Finance
may, with the approval of the Knesset Finance Committee, determine by order, during a
certain fiscal year (or until February 28th of the following year), in which the rate of
increase of the price index would not exceed or shall not have exceeded, as applicable,
3%, that all or some of the provisions of this law shall not apply to such fiscal year,
or, that the rate of increase of the price index relating to such fiscal year shall be
deemed to be 0%, and to make the adjustments required to be made as a result of such
determination.

# Capital Gains Tax

Israeli
law imposes a capital gains tax on the sale of capital assets. The law distinguishes
between the inflationary surplus and the real gain. The inflationary surplus is a portion
of the total capital gain, which is equivalent to the increase of the relevant
assets purchase price that is attributable to the increase in the Israeli consumer
price index between the date of purchase and the date of sale. The real gain is the excess
of the total capital gain over the inflationary surplus. Inflationary surplus accumulated
after December 31, 1993 is exempt from any capital gains tax in Israel. The real gain is
added to ordinary income, which is taxed at ordinary rates of 30% to 50% for individuals
and 36%, up to December 31, 2002 and 25% thereafter for corporations. Prior to the reform,
individuals were exempt from capital gains tax on the sale of shares listed for trade in
certain stock exchanges, including Nasdaq under certain conditions.

As
a result of the recent tax reform legislation in Israel, gains from the sale of our
ordinary shares and warrants to purchase our ordinary shares derived from January 1, 2003
and on will in general be liable to capital gains tax of up to 15% so long as our shares
are eligible for sale on a designated foreign stock market such as Nasdaq. However,
according to the tax reform subordinate legislation, non-residents of Israel will be
exempt from any capital gains tax from the sale of our securities so long as the gains are
not derived through a permanent establishment that the non-resident maintains in Israel,
and so long as our securities remain listed for trading as described above. These
provisions dealing with capital gains exemptions are not applicable to a person whose
gains from selling or otherwise disposing of our securities are: (i) deemed to be business
income (such as a broker or dealer); (ii) whose taxable income is determined pursuant to
the Israeli Income Tax Law (Inflation Adjustments), 1985; or (iii) who purchased our
shares prior to our initial public offering. The Israeli Income Tax Law (Inflation
Adjustments) would not normally be applicable to non-resident shareholders who have no
business activity in Israel.

In
any event, under the US-Israel Tax Treaty, a US treaty resident may only be liable for
Israeli capital gains tax on the sale of our ordinary shares (subject to the provisions of
Israeli domestic law as described above) if that US treaty resident holds 10% or more of
the voting power in our company.

Under
a treaty between the governments of the United States and Israel, Israeli capital gains
tax does not apply to the sale, exchange or disposition of ordinary shares by a person who
qualifies as a resident of the United States within the meaning of the treaty and who is
entitled to claim the benefits afforded to such resident by the treaty. This exemption
does not apply if the person holds, directly or indirectly, ordinary shares representing
10% or more of our voting power during any part of the 12-month period preceding the
applicable sale, exchange or disposition. However, the person would be permitted to claim
a credit for the capital gains tax paid in Israel against the U.S. income tax imposed for
the applicable sale, exchange or disposition, subject to the limitations in U.S. laws
applicable to foreign tax credits. The U.S.-Israel Tax Treaty does not relate to the U.S.
state or local taxes.

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# Taxation of the Ordinary
Income of Non-Resident Holders of Our Shares

Non-residents
of Israel pay income tax on income accrued or derived from sources in Israel. These
sources of income include passive income such as dividends, royalties and interest, as
well as non-passive income from services rendered in Israel. On distributions of dividends
other than bonus shares, or stock dividends, income tax at the rate of 25% is withheld at
source. If the income out of which the dividend is being paid is attributable to an
approved enterprise, the rate is 15%. A different rate may be provided in a treaty between
Israel and the shareholders country of residence. Under the U.S.-Israel Tax Treaty,
the maximum tax on dividends paid to a U.S. resident is 25% however, the tax rate is
reduced to 12.5% for dividends not generated by an approved enterprise to a corporation
which holds 10% or more of the companys voting power during a certain period
preceding the distribution of the dividend. Also, under the treaty with the U.S., if the
income out of which the dividend is being paid is attributable to an approved enterprise
and the non-resident is a U.S. corporation that holds 10% of the companys voting
power, the rate is 15%.

A
non-resident of Israel who receives interest, dividend or royalty income derived from or
accrued in Israel, from which tax was withheld at the source, is generally exempt from the
duty to file tax returns in Israel on such income, provided that income was not derived
from a business conducted in Israel by the taxpayer.

Under
Israeli law, non-Israeli corporations might be required to pay Israeli taxes on the sale
of traded securities in an Israeli Company, taking into consideration the provisions of
any applicable double taxation treaty.

# Foreign Exchange
Regulations

Non-residents
of Israel who hold our ordinary shares are able to receive any dividends, and any amounts
payable upon the dissolution, liquidation and winding up of our affairs, freely
repatriable in non-Israeli currency at the rate of exchange prevailing at the time of
conversion. However, Israeli income tax is required to have been paid or withheld on these
amounts. In addition, there are currently no Israeli currency control restrictions on the
proceeds from the sale of ordinary shares. However, legislation remains in effect by which
currency controls can be imposed by administrative action at any time.

# U.S. TAXATION

The
following describes the material United States federal income tax consequences of the
purchase, ownership and disposition of our ordinary shares to a U.S. holder.

For
purposes of this discussion, a U.S. holder is:

| |  | a
natural person who is a citizen or resident of the United States;
| | - | -------------------------------------------------------------------

| |  | a
corporation or another entity taxable as a corporation created or organized under the
laws of the United States or any political subdivision of the United States;
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | an
estate, the income of which is includable in gross income for United States federal
income tax purposes regardless of its source; or
| | - | ---------------------------------------------------------------------------------------------------------------------------------------

| |  | a
 trust,  if (a) a U.S.  court  is able to  exercise  primary  supervision  over its
             administration  and (b) one or more U.S. persons have the authority to
control all of              its substantial decisions.
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

This
summary is for general information purposes only and does not purport to be a
comprehensive description of all of the U.S. federal income tax considerations that may be
relevant to a decision to purchase, hold or dispose of the ordinary shares. This summary
generally considers only U.S. holders that will own the ordinary shares as capital assets
and does not consider the U.S. tax consequences to a person that is not a U.S. holder or
the tax treatment of persons who hold the ordinary shares through a partnership or other
pass-through entity. In addition, the possible application of U.S. federal estate or gift
taxes or any aspect of state, local or non-U.S. tax laws is not considered. 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 in effect today
and all of which may change, possibly with a retroactive effect.

- 59 -

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---

This
discussion does not address all aspects of U.S. federal income taxation that may be
relevant to any particular U.S. holder based on the holders particular
circumstances, such as,

| |  | persons
 who  own,  directly,  indirectly  or  constructively,  10%  or  more  of our
             outstanding voting shares;
| | - | -----------------------------------------------------------------------------------------------------------------------------

| |  | persons
who hold the  ordinary  shares as part of a hedging,  straddle or  conversion
             transaction;
| | - | ---------------------------------------------------------------------------------------------------------------

| |  | persons
whose functional currency is not the dollar;
| | - | ----------------------------------------------------

| |  | persons
who acquire their ordinary shares in a compensatory transaction;
| | - | ------------------------------------------------------------------------

| |  | broker-dealers;
| | - | ---------------

| |  | insurance
companies;
| | - | --------------------

| |  | tax-exempt
organizations;
| | - | -------------------------

| |  | financial
institutions; and
| | - | ---------------------------

| |  | persons
subject to the alternative minimum tax.
| | - | -----------------------------------------------

# Availability of Reduced
Tax Rates

U.S.
          legislation enacted in 2003 reduced to 15% the maximum U.S. Federal income
          tax rate on certain long-term capital gains and on qualifying
          dividends. Long-term capital gains from the sale of our ordinary shares
          would be eligible for this reduced rate.  Dividends, if any, would
          also be eligible for this reduced rate, provided that we do not constitute
          a passive foreign investment company.

# Distributions on the
Ordinary Shares

We
currently do not intend to pay dividends for at least the next several years. However, if
we make any distributions of cash or other property to a U.S. holder of our ordinary
shares, the amount of the distribution for U.S. federal income tax purposes will equal the
amount of cash and the fair market value of any property distributed and will also include
the amount of Israeli taxes withheld, if any, as described above under Taxation of
the Ordinary Income of Non-Resident Holders of Our Shares starting on page 49. In
general, a distribution paid by us on the ordinary shares to a U.S. holder will be treated
as dividend income if the distribution does not exceed our current or accumulated earnings
and profits, as determined for U.S. federal income tax purposes. The amount of any
distribution which exceeds these earnings and profits will be treated first as a
non-taxable return of capital, reducing the U.S. holders tax basis in its ordinary
shares to the extent thereof, and then as capital gain from the deemed disposition of the
ordinary shares. Corporate holders generally will not be allowed a deduction for dividends
received on the ordinary shares.

A
dividend paid by us in NIS will be included in the income of U.S. holders at the U.S.
dollar value of the dividend, based upon the spot rate of exchange in effect on the date
of the distribution. U.S. holders will have a tax basis in the NIS for U.S. federal income
tax purposes equal to that U.S. dollar value. Any subsequent gain or loss resulting from
exchange rate fluctuations between the day the dividend was included in income of U.S.
holders and the day the NIS are converted into U.S. dollars or otherwise are disposed of,
will be taxable as ordinary income or loss from U.S. sources.

- 60 -

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Dividends
paid by us generally will be foreign source passive income for U.S. foreign
tax credit purposes or, in the case of a U.S. holder that is a financial services entity,
financial services income. U.S. holders may elect to claim as a foreign tax
credit against their U.S. federal income tax liability the Israeli income tax withheld
from dividends received on the ordinary shares. The Code provides limitations on the
amount of foreign tax credits that a U.S. holder may claim. U.S. holders that do not elect
to claim a foreign tax credit may instead claim a deduction for Israeli income tax
withheld, but only for a year in which these U.S. holders elect to do so for all foreign
income taxes. The rules relating to foreign tax credits are complex, and you should
consult your tax advisor to determine whether and if you would be entitled to this credit.

# Sale or Exchange of the
Ordinary Shares

Upon
the sale or exchange of the ordinary shares, a U.S. holder generally will recognize
capital gain or loss in an amount equal to the difference between the amount realized on
the sale or exchange and the U.S. holders tax basis in the ordinary shares. The gain
or loss recognized on the sale or exchange of the ordinary shares generally will be
long-term capital gain or loss if the U.S. holders holding period of the ordinary
shares is more than one year at the time of the disposition.

Gain
or loss recognized by a U.S. holder on a sale or exchange of ordinary shares generally
will be treated as U.S. source income or loss for U.S. foreign tax credit purposes. Under
the tax treaty between the United States and Israel, gain derived from the sale, exchange
or other disposition of ordinary shares by a holder who is a resident of the U.S. for
purposes of the treaty and who sells the ordinary shares within Israel may be treated as
foreign source income for U.S. foreign tax credit purposes.

# Passive Foreign
Investment Companies

In
general, a foreign (that is, non-U.S.) corporation will be a passive foreign investment
company for any taxable year if either (1) 75% or more of its gross income in the taxable
year is passive income, or (2) 50% or more of the average value of its gross assets in the
taxable year is held for the production of, or produces, passive income. For purpose of
the income test, passive income includes dividends, interest, royalties, rents, annuities
and net gains from the disposition of assets, which produce passive income. For purposes
of the assets test, assets held for the production of passive income includes assets held
for the production of, or that produce dividends, interest, royalties, rents, annuities,
and other income included in the income test. The income test is conducted at the taxable
year-end. The asset test is conducted on a quarterly basis and the quarterly results are
then averaged together.

If
a corporation is treated as a passive foreign investment company for any year during a
U.S. holders holding period and the U.S. holder does not timely elect to treat the
corporation as a qualified electing fund under Section 1295 of the Code or
elect to mark its ordinary shares to market, any gain on the disposition of the shares
will be treated as ordinary income, rather than capital gain, and the holder will be
required to compute its tax liability on that gain, as well as on dividends and other
distributions, as if the income had been earned ratably over each day in the U.S.
holders holding period for the shares. The portion of the gain and distributions
allocated to prior taxable years in which a corporation was a passive foreign investment
company will be taxed at the highest ordinary income tax rate in effect for each taxable
year to which this portion is allocated. An interest charge will be imposed on the amount
of the tax allocated to these taxable years. A U.S. holder may elect to treat a
corporation as a qualified electing fund only if the corporation complies with
requirements imposed by the IRS to enable the shareholder and the IRS to determine the
corporations ordinary income and net capital gain. Additionally, if a corporation is
a passive foreign investment company, a U.S. holder who acquires shares in the corporation
from a decedent will be denied the normally available step-up in tax basis to fair market
value for the shares at the date of death and instead will have a tax basis equal to the
decedents tax basis if lower than fair market value.

- 61 -

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---

Status
of Nova as a Passive Foreign Investment company. Under the income test, less than 75%
of our gross income was passive income in 2004. The determination of our status under the
asset test is more difficult, because that test requires a quarterly determination of the
fair market value of our passive and non-passive assets. For 2004, while we continue to
have substantial amounts of cash and short-term deposits and the market value of our
ordinary shares has decreased, a determination of the value of our non-passive assets by
reference to the market value of our ordinary shares would result in a conclusion that the
average value of our passive assets does not exceed 50% of the average value of our gross
assets. However, there is a risk that we were a passive foreign investment company in 2004
or we will be a passive foreign investment company in subsequent years because there is no
accepted authority relating to whether the fair market value of a companys assets
can be determined solely by reference to the market value of the companys stock.
Accordingly, after making a determination of the gross fair market value of our
non-passive assets, we believe that the average percentage of the value of our passive
assets is less than 50% of the average gross fair market value of our total assets. If we
will be treated as a passive foreign investment company for any taxable year, U.S. holders
should consider whether or not to elect to treat us as a qualified electing
fund or to elect to mark-to-market their ordinary shares. In particular,
if a U.S. holder makes a qualified electing fund election for all taxable years that the
U.S. holder holds the ordinary shares during which we are treated as a passive foreign
investment company, the U.S. holder will be required for each taxable year to include in
income a pro rata share of our undistributed ordinary earnings and net capital gain, if
any, as ordinary income and long-term capital gain, respectively. We will comply with all
the requirements of the Code so that U.S. holders of our ordinary shares will be able to
elect to treat Nova as a qualified electing fund if they so choose.

Alternatively,
if a U.S. holder elects to mark-to-market its ordinary shares, the U.S. holder
will generally include in income any excess of the fair market value of the ordinary
shares at the close of each taxable year over the holders adjusted basis in such
stock. A U.S. holder generally will be allowed an ordinary deduction for the excess, if
any, of the adjusted tax basis of the ordinary shares over the fair market value of the
ordinary shares as of the close of the taxable year, or the amount of any net
mark-to-market gains recognized for prior taxable years, whichever is less. A U.S.
holders adjusted tax basis in the ordinary shares will generally be adjusted to
reflect the amounts included or deducted under the mark-to-market election. Additionally,
any gain on the actual sale or other disposition of the ordinary shares generally will be
treated as ordinary income. Ordinary loss treatment also will apply to any loss recognized
on the actual sale or other disposition of ordinary shares to the extent that the amount
of such loss does not exceed the net mark-to-market gains previously included with respect
to such stock. An election to mark-to-market generally will apply to the taxable year in
which the election is made and all subsequent taxable years.

If
a U.S. holder makes one of these two elections, distributions and gain will not be
recognized ratably over the U.S. holders holding period or be subject to an interest
charge as described above. Further, the denial of basis step-up at death described above
will not apply. If a U.S. holder elects to treat us as a qualified electing
fund, gain on the sale of the ordinary shares will be characterized as capital gain.
However, U.S. holders making one of these two elections may experience current income
recognition, even if we do not distribute any cash.

A
number of specific rules and requirements apply to both of these elections, and you are
urged to consult your tax advisor concerning these elections if we become a passive
foreign investment company.

# United States
Information Reporting and Backup Withholding

Dividend
payments and proceeds from the sale or disposal of ordinary shares may be subject to
information reporting to the Internal Revenue Service and possible U.S. federal backup
withholding at the rate of 31%. Backup withholding will not apply, however, to a holder
who furnishes a correct taxpayer identification number or certificate of foreign status
and makes any other required certification or who is otherwise exempt from backup
withholding (for example, if you are a corporation). Any U.S. holder who is required to
establish exempt status generally must file Internal Revenue Service Form W-9
(Request for Taxpayer Identification Number and Certification). Finalized
Treasury Regulation, which are applicable to payments made after December 31, 2000, have
generally expanded the circumstances under which information reporting and backup
withholding may apply.

Amounts withheld as backup
withholding may be credited against a U.S. holders federal income tax liability. A
U.S. holder may obtain a refund of any excess amounts withheld under the backup
withholding rules by filing the appropriate claim for refund with the Internal Revenue
Service and furnishing any required information.

# Documents on Display

The
documents referred to herein, including our memorandum and articles of association, can be
obtained from the Company at its registered office at Weizmann Science Park, Building 22,
2nd Floor, Ness-Ziona 76100, Israel. In addition, the Company is subject to certain
informational requirements of the Securities Exchange Act of 1934 and the rules and
regulations promulgated thereunder. In accordance therewith, the Company files reports
with the United States Securities and Exchange Commission (SEC). Reports and
other information provided to the SEC by the Company may be inspected and copied at the
public reference facilities maintained by the SEC at Room 1024, 450 Fifth Street, N.W.,
Washington, D.C. 20549. Information on the operation of the public reference facilities
may be obtained by calling the SEC at 1-800-SEC-0330. In addition, certain of the
Companys reports filed with the SEC are available on-line at www.sec.gov.

- 62 -

---

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# Item 11. Quantitative
and Qualitative Disclosures About Market Risk

# Market risk

Market
risk represents the risk of loss that may impact the consolidated financial position,
results of operations or cash flows of the Company. The Company is exposed to market risk
in the area of foreign exchange rates, as described below.

The
Company does not utilize financial instruments for trading purposes and holds no
derivative financial instruments that could expose it to significant market risk.

# Impact of Inflation and
Currency Fluctuation

Substantially
all of our sales are made in U.S. dollars. Over 50% of our expenses in 2004 were in
dollars or in NIS linked to the dollar. Most of the remaining expenses were in NIS. The
dollar cost of our operations in Israel is influenced by any increase and the timing of
such increase, in the rate of inflation in Israel that is not offset by the devaluation of
the NIS in relation to the dollar. During 2004, the value of the NIS increased against the
dollar by 1.62%, while the consumer price index in Israel increased 1.21%. During 2003,
the value of the NIS increased against the dollar by 7.6%, while the consumer price index
in Israel decreased 1.9%. During 2002, the value of the NIS decreased against the dollar
by 7.3%, while the consumer price index in Israel increased by 6.5%. We believe that the
rate of inflation in Israel has had a minor effect on our business to date. However, our
dollar costs in Israel will increase if inflation in Israel exceeds the devaluation of the
NIS against the dollar or if the timing of this devaluation lags behind inflation in
Israel. As of December 31, 2004, the majority of our net monetary assets were denominated
in dollars and the remainder was denominated mainly in NIS. Net monetary assets that are
not denominated in dollars or dollar-linked NIS are affected by the risk of currency
fluctuations. In addition, approximately 5% of our expenses are in Euros. During 2004, the
value of the Euro increased against the dollar by approximately 7.44%. The weakening of
the dollar against the Euro and the NIS has increased the average dollar value of expenses
valued in those currencies.

Based
upon historical US dollar currency movement, the Company does not believe that reasonably
possible near-term changes in the US dollar currency of 5% will result in a material
effect on future earnings, financial position or cash flows of the Company.

In
2002, the Company did not enter into currency-forward transactions (NIS/dollar). The
Company did enter into currency-put options transactions to insure (NIS/dollar) the rate
in 2002. The total accumulated sum insured in the year was approximately $4 million, and
the results of these transactions did not have, as expected, material effect on the
operational results of the Company.

In
2003, the Company entered into currency-forward and currency-put options transactions
(NIS/dollar) to insure (NIS/dollar) the rate in 2003. The total accumulated sum insured in
the year was approximately $4 million, and the results of these transactions did not have,
as expected, any material effect on the operational results of the Company.

In
2004, the Company entered into currency-forward and currency-put options transactions
(NIS/dollar) to insure (NIS/dollar) the rate in 2004. The total accumulated sum insured in
the year was approximately $7.7 million with settlement dates through 2005, and the
results of these transactions did not have, as expected, any material effect on the
operational results of the Company.

# Item 12. Description of
Securities Other than Equity Securities

Not
applicable.

- 63 -

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# PART II

# Item 13. Defaults,
Dividend Arrearages and Delinquencies

None.

# Item 14. Material
Modification to the Rights of Security Holders and Use of Proceeds

The
effective date of the Securities Act registration statement for which use of proceeds is
being disclosed is April 11, 2000. The commission file number assigned to that
registration statement is 333-11640.

We
sold 3,000,000 ordinary shares for consideration of $54 million. The net proceeds amounted
to $49.2 million. As of March 31, 2005, approximately $20 million of the net proceeds had
been used for working capital requirements and $4.5 million for capital expenditures.

# Item 15. Evaluation of
disclosure controls and procedures

Based
on their evaluation as of the end of the period covered by this Annual Report on Form
20-F, the Companys President and Chief Executive Officer and Chief Financial Officer
have concluded that the Companys disclosure controls and procedures (as
defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934 (the
Exchange Act)) were effective as of December 31, 2004 so as to provide
reasonable assurance that information required to be disclosed by the Company in the
reports that it files or submits under the Exchange Act is recorded, processed,
summarized, and reported within the time periods specified in the Securities and Exchange
Commissions rules and forms.

Changes
in internal controls

During
the fiscal year ended December 31, 2004 there was no change in our internal controls over
financial reporting that materially affected, or is reasonably likely to materially
affect, our internal control over financial reporting.

# Item 16. Reserved

Reserved.

# Item 16A. Audit
Committee Financial Expert

Our
Board of Directors has determined that our Audit Committee includes one audit committee
financial expert, as defined by Item 16A of Form 20-F, Lauri Hanover.

# Item 16B. Code of Ethics

The
Company has adopted a written code of conduct that applies to all Company employees,
including the Companys directors, principal executive officer, principal financial
officer and principal accounting officer.

You
may review our code of conduct on our website, http://nova.co.il under About
Nova.

# Item 16C. Principal
Accountant Fees and Services

During
each of the last two fiscal years, Brightman Almagor & Co., an independent registered
accounting firm and a member firm of Deloitte Touche Tohmatsu (Deloitte &
Touche) has acted as the Companys registered public accounting firm and
independent auditors.

- 64 -

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AUDIT
FEES

Deloitte
& Touche billed the Company approximately $34,000 for audit services for fiscal 2003,
including fees associated with the annual audit and reviews of the Companys
quarterly financial results submitted on Form 6-K, consultations on various accounting
issues and performance of local statutory audits. Deloitte & Touche billed the Company
approximately $38,000 for audit services in fiscal 2004.

AUDIT-RELATED
FEES

Deloitte
& Touche did not bill for any audit-related services in 2004 or 2003, except as
included under the caption AUDIT FEES.

TAX
FEES

Deloitte
& Touche billed the Company approximately $2,000 for tax advice, including fees
associated with tax compliance services, tax planning services and other tax consulting
services for fiscal 2003. Deloitte & Touche billed the Company approximately $2,000
for tax advice in fiscal 2004.

ALL
OTHER FEES

Deloitte
& Touche billed the Company approximately $37,500 for services other than Audit Fees
and Tax Fees described above for fiscal 2003. In fiscal 2003, such other services included
consulting for Office of the Chief Scientist grants refund and consulting regarding
investment center application. Deloitte & Touche billed the Company approximately
$5,000 for SEC compliance related services other than Audit Fees and Tax Fees described
above for fiscal 2004.

PRE-APPROVAL
POLICIES FOR NON-AUDIT SERVICES

Prior
to the engagement of Deloitte & Touche each year, the engagement is approved by the
Audit Committee of the Board of Directors. The Companys Audit Committee rules of
procedure provide for a process with respect to the prior approval of all services,
including non-audit services, to be performed by the independent auditors for the Company.
In fiscal 2004 and 2003, the Companys Audit Committee approved all of the services
provided by Deloitte & Touche.

# Item 16D. Exemptions
from the Listing Standards for Audit Committees

The
Company has not obtained any exemption from applicable audit committee listing standards.

# Item 16E. Purchases of
Equity Securities by the Issuer and Affiliates Purchasers

In
2004, neither the Company nor any affiliated purchaser (as defined in the Exchange Act)
purchased any of the Companys ordinary shares.

# PART III

# Item 17. Financial
Statements

Not
applicable.

# Item 18. Financial
Statements

See
pages F-1 through F-21.

- 65 -

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# Item 19. Exhibits

|Number |  | Description
|------ |  | -----------

|1.1 |  | Articles
of Association (incorporated by reference to exhibit 3.1 to the Company's Registration
Statement          on Form F-1 (registration number 333-11640))
|--- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------

|1.2 |  | First
Amendment to the Company's Articles of Association (incorporated by reference to the
Company's          Current Report on Form 6-K filed on June 4, 2002)
|--- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.1 |  | 1997
Stock Option Plan (Plan 2) (incorporated by reference to exhibit 10.1 to the Company's
Registration          Statement on Form F-1 (registration number 333-11640))
|--- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.2 |  | Option
Plan 3 (incorporated by reference to exhibit 10.2 to the Company's Registration Statement
on Form          F-1 (registration number 333-11640))
|--- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------

|4.3 |  | Option
Plan 4A and 4B (incorporated by reference to exhibit 10.3 to the Company's Registration
Statement          on Form F-1 (registration number 333-11640))
|--- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.4 |  | Option
Plan 5 (incorporated by reference to Exhibit 4.4 to the Company's Annual Report for 20-F
for 2002          filed May 9, 2002
|--- |  | -----------------------------------------------------------------------------------------------------------------------------------

|4.5 |  | Option
Plan 6 (incorporated by reference to Exhibit 4.1 to the Company's Registration Statement
on Form          S-8 filed December 24, 2002 (registration number 333-102193))
|--- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.6 |  | Employment
Agreement between Nova and Giora Dishon (incorporated by reference to exhibit 10.4 to the
         Company's Registration Statement on Form F-1 (registration number 333-11640))
|--- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.7 |  | Employment
Agreement between Nova and Moshe Finarov (incorporated by reference to exhibit 10.6 to
the          Company's Registration Statement on Form F-1 (registration number 333-11640))
|--- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.8 |  | Employment
Agreement between Nova and Chai Toren (incorporated by reference to exhibit 10.7 to the
         Company's Registration Statement on Form F-1 (registration number 333-11640))
|--- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.9 |  | Employment
Agreement between Nova and Ronen Frish (incorporated by reference to exhibit 10.8 to the
         Company's Registration Statement on Form F-1 (registration number 333-11640))
|--- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.10 |  | Agreements
between Nova and the Office of the Chief Scientist in Israel (incorporated by reference
to          exhibit 10.10 to the Company's Registration Statement on Form F-1
(registration number 333-11640))
|---- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.11 |  | Certificate
of Approval from the Investment Center in Israel (incorporated by reference to exhibit
10.11          to the Company's Registration Statement on Form F-1 (registration number
333-11640))
|---- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.12 |  | Lease
Agreement between Nova and Ef-Shar Ltd. (incorporated by reference to Exhibit 4.14 to the
Company's          Annual Report on Form 20-F filed on May 9, 2002)
|---- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.13 |  | Summary
of Lease Agreement between Nova and Ef-Shar Ltd. (incorporated by reference to Exhibit
4.15 to the          Company's Annual Report on Form 20-F filed on May 9, 2002)
|---- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.14 |  | Letter
Agreement between Barry Cox and the Company dated May 15, 2003 (incorporated by reference
to          Exhibit 4.1 to the Company's Registration Statement on Form S-8 filed on May
17, 2004 (registration number          333-115556))
|---- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.15 |  | Employee
Stock Purchase Plan 1 (incorporated herein by reference to Exhibit 4.1 to the Company's
         Registration Statement on Form S-8 filed on March 24, 2003 (File No. 33-103981))
|---- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.16 |  | Letter
of Indemnification and Exculpation for certain directors, officers and/or employees
(incorporated          herein by reference Annex A to the Company's Current Report on
Form 6-K filed on October 8, 2002)
|---- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.17 |  | Option
Plan 7A (incorporated by reference to Exhibit 4.1. to the Company's Registration
Statement on Form          S-8 filed on May 17, 2004 (registration number 333-115554))
|---- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.18 |  | Option
Plan 7B (incorporated by reference to Exhibit 4.1 to the Company's Registration Statement
on Form          S-8 filed on March 7, 2005 (registration number 333-123158)
|---- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|8 |  | List
of Subsidiaries (filed herewith)
|- |  | -------------------------------------

|12.1 |  | Certification
required by Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended (filed
         herewith)
|---- |  | ---------------------------------------------------------------------------------------------------------------------

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|Number |  | Description
|------ |  | -----------

|12.2 |  | Certification
required by Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended (filed
         herewith)
|---- |  | ---------------------------------------------------------------------------------------------------------------------

|13.1 |  | Certification
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (filed herewith)
|---- |  | ----------------------------------------------------------------------------------------

|13.2 |  | Certification
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (filed herewith)
|---- |  | ----------------------------------------------------------------------------------------

|14.1 |  | Consent
of Brightman Almagor & Co. (filed herewith)
|---- |  | ---------------------------------------------------

# Signatures

Pursuant
to the requirements of Section 12 of the Securities Exchange Act of 1934, the registrant
certifies that it meets all of the requirements for filing on Form 20-F and has duly
caused this annual report to be signed on its behalf by the undersigned, thereunto duly
authorized.

| |  | NOVA MEASURING INSTRUMENTS, LTD.BY: /S/ Giora Dishon
Giora Dishon,President and Chief Executive Officer
| |  | ---------------------------------------------------------------------------------------------------------------------

Date: June 28, 2005

- 67 -

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# NOVA MEASURING
INSTRUMENTS LTD.

# CONSOLIDATED FINANCIAL
STATEMENTS

# AS OF DECEMBER 31, 2004



---

---

# NOVA MEASURING
INSTRUMENTS LTD.

# CONSOLIDATED FINANCIAL
STATEMENTS AS OF DECEMBER 31, 2004

# Contents

|                                                                                                | Page      
|----------------------------------------------------------------------------------------------- | ----------
|
|
|
|
|Independent Auditors' Report                                                                    | F-1       
|Consolidated Financial Statements                                                              
|Balance Sheets - December 31, 2004 and 2003                                                     | F-2       
|Statements of Operations - Years Ended December 31, 2004, 2003 and 2002                         | F-3       
|Statements of Shareholders' Equity and Comprehensive Loss - Years Ended December 31, 2004, 2003
|and 2002                                                                                        | F-4       
|Statements of Cash Flows - Years Ended December 31, 2004, 2003 and 2002                         | F-5 - F-6 
|Notes to the Financial Statements                                                               | F-7 - F-21



---

---

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
TO THE SHAREHOLDERS OF
NOVA MEASURING INSTRUMENTS LTD.

We have  audited  the  accompanying
 consolidated  balance  sheets  of Nova  Measuring  Instruments  Ltd.  (the "Company")
and its  subsidiaries as of December 31, 2004 and 2003, and the related  consolidated
 statements of operations,  shareholders'  equity and  comprehensive  income (loss) and
cash flows for each of the three years in the period ended  December 31, 2004.  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.  An audit includes  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,  as well as
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 the Company and its subsidiaries as of December
31, 2004 and 2003,  and their  consolidated  results of operations  and cash flows for
each of the three years in the period ended December 31, 2004, in conformity with
accounting  principles  generally  accepted in the United States of America.

Brightman Almagor & Co.
Certified Public Accountants (Israel)
A member firm of Deloitte Touche Tohmatsu

Tel Aviv, Israel
February 16, 2005

F - 1

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---

NOVA MEASURING INSTRUMENTS LTD.
CONSOLIDATED BALANCE SHEETS(In thousands, except share and per share data)

|                                                               | As of December 31,
|-------------------------------------------------------------- | ------------------
|
|
|
|
|CURRENT ASSETS                                                 |                   
|Cash and cash equivalents                                      |                   
|Short-term interest-bearing bank deposits                      |                   
|Held to maturity securities                                    |                   
|Trade accounts receivable (no allowance for doubtful accounts) |                   
|Inventories (Note 3)                                           |                   
|Other current assets                                           |                   
|                                                               |                   
|                                                               |                   
|                                                               |                   
|                                                               |                   
|LONG-TERM ASSETS                                               |                   
|Long-term interest-bearing bank deposits                       |                   
|Held to maturity securities                                    |                   
|Other Long term assets                                         |                   
|Severance pay funds (Note 6)                                   |                   
|                                                               |                   
|                                                               |                   
|                                                               |                   
|                                                               |                   
|FIXED ASSETS, NET (Note 4)                                     |                   
|                                                               |                   
|                                                               |                   
|Total assets                                                   |                   
|                                                               |                   
|                                                               |                   
|                                                               |                   
|CURRENT LIABILITIES                                            |                   
|Trade accounts payable                                         |                   
|Other current liabilities (Note 5)                             |                   
|                                                               |                   
|                                                               |                   
|                                                               |                   
|                                                               |                   
|LONG-TERM LIABILITIES                                          |                   
|Liability for employee termination benefits (Note 6)           |                   
|Deferred Income                                                |                   
|Other long-term liability (Note 9)                             |                   
|                                                               |                   
|                                                               |                   
|                                                               |                   
|                                                               |                   
|COMMITMENTS AND CONTINGENCIES (Note 7)                         |                   
|                                                               |                   
|SHAREHOLDERS' EQUITY (Note 8)                                  |                   
|Ordinary shares, NIS 0.01 par value - authorized 40,000,000    |                   
|shares, issued and outstanding 15,308,544                      |                   
|and 15,117,538 shares, respectively                            |                   
|Additional paid-in capital                                     |                   
|Deferred stock-based compensation                              |                   
|Accumulated other comprehensive income                         |                   
|Accumulated deficit                                            |                   
|                                                               |                   
|Total shareholders' equity                                     |                   
|                                                               |                   
|                                                               |                   
|Total liabilities and shareholders' equity                     |                   
|                                                               |                   

The accompanying notes are an
integral part of the consolidated financial statements.

F - 2

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---

NOVA MEASURING
INSTRUMENTS LTD.CONSOLIDATED TATEMENTS OF OPERATIONS(In thousands, except per
share data)

|                                                               | Year ended December 31,
|-------------------------------------------------------------- | -----------------------
|
|
|
|
|REVENUES:                                                      |                        
|Product sales                                                  |                        
|Services                                                       |                        
|                                                               |                        
|                                                               |                        
|                                                               |                        
|                                                               |                        
|COST OF REVENUES:                                              |                        
|Product sales                                                  |                        
|Services                                                       |                        
|                                                               |                        
|                                                               |                        
|                                                               |                        
|GROSS PROFIT                                                   |                        
|                                                               |                        
|                                                               |                        
|OPERATING EXPENSES                                             |                        
|                                                               |                        
|Research and development expenses, net of participation        |                        
|by the OCS of $1,926, $2,321 and $1,679, respectively (Note 7) |                        
|Technology for use in research and development (Note 9)        |                        
|Sales and marketing expenses                                   |                        
|General and administrative expenses                            |                        
|Other operating income (Note 10)                               |                        
|                                                               |                        
|                                                               |                        
|                                                               |                        
|                                                               |                        
|OPERATING PROFIT (LOSS)                                        |                        
|                                                               |                        
|INTEREST INCOME                                                |                        
|(net of related expenses of $56, $28 and $30, respectively)    |                        
|                                                               |                        
|                                                               |                        
|                                                               |                        
|NET INCOME (LOSS) FOR THE YEAR                                 |                        
|                                                               |                        
|                                                               |                        
|                                                               |                        
|EARNINGS (LOSS) PER SHARE                                      |                        
|                                                               |                        
|Basic earnings (Loss) per share                                |                        
|                                                               |                        
|                                                               |                        
|Diluted earnings per share                                     |                        
|                                                               |                        
|                                                               |                        
|Shares used in calculation of basic earnings (loss) per share  |                        
|                                                               |                        
|                                                               |                        
|Shares used in calculation of diluted earnings per share       |                        
|                                                               |                        

The accompanying notes are an
integral part of the consolidated financial statements.

F - 3

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NOVA MEASURING
INSTRUMENTS LTD.CONSOLIDATED
STATEMENTS OF CHANGES IN SHAREHOLDERS EQUITY AND COMPREHENSIVE LOSS(In thousands)

|                                                   | Share capital
|-------------------------------------------------- | -------------
|
|
|
|
|Balance as of January 1, 2002                      |              
|Employee share-based plans                         |              
|Amortization of deferred stock- based compensation |              
|Forfeiture of employee share options               |              
|Realization of losses on derivatives               |              
|Realization of losses on investments               |              
|Conversion of deferred shares into ordinary shares |              
|Loss for the year                                  |              
|                                                   |              
|Total comprehensive loss                           |              
|                                                   |              
|                                                   |              
|Balance as of January 1, 2003                      |              
|                                                   |              
|Employee share-based plans                         |              
|Amortization of deferred stock- based compensation |              
|Forfeiture of employee share options               |              
|Increase in fair market value of derivatives       |              
|Loss for the year                                  |              
|                                                   |              
|Total comprehensive loss                           |              
|                                                   |              
|                                                   |              
|Balance as of January 1, 2004                      |              
|                                                   |              
|Employee share-based plans                         |              
|Amortization of deferred stock- based compensation |              
|Forfeiture of employee share options               |              
|Decrease in fair market value of derivatives       |              
|Net income for the year                            |              
|                                                   |              
|Total comprehensive loss                           |              
|                                                   |              
|                                                   |              
|Balance as of December 31, 2004                    |              
|                                                   |              

The accompanying notes are an
integral part of the consolidated financial statements. (*)  Less than $1

F - 4

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NOVA MEASURING
INSTRUMENTS LTD.CONSOLIDATED STATEMENTS OF CASH FLOWS  (In thousands)

|                                                                            | Year ended December 31,
|--------------------------------------------------------------------------- | -----------------------
|
|
|
|
|CASH FLOWS - OPERATING ACTIVITIES                                           |                        
|Net income (loss) for the year                                              |                        
|Adjustments to reconcile net income (loss) for the year to net cash         |                        
|used in operating activities - Schedule A                                   |                        
|                                                                            |                        
|                                                                            |                        
|Net cash - operating activities                                             |                        
|                                                                            |                        
|                                                                            |                        
|CASH FLOWS - INVESTING ACTIVITIES                                           |                        
|                                                                            |                        
|Technology for use in research and development                              |                        
|Increase in short-term and long-term interest-bearing bank deposits         |                        
|Decrease (increase) in short-term and long-term held to maturity securities |                        
|Decrease in available for sale securities                                   |                        
|Additions to fixed assets                                                   |                        
|                                                                            |                        
|                                                                            |                        
|Net cash - investing activities                                             |                        
|                                                                            |                        
|                                                                            |                        
|CASH FLOWS - FINANCING ACTIVITIES                                           |                        
|                                                                            |                        
|Shares issued under employee share-based plans                              |                        
|                                                                            |                        
|                                                                            |                        
|Net cash - financing activities                                             |                        
|                                                                            |                        
|                                                                            |                        
|Increase (decrease) in cash and cash equivalents                            |                        
|Cash and cash equivalents - beginning of year                               |                        
|                                                                            |                        
|                                                                            |                        
|Cash and cash equivalents - end of year                                     |                        
|                                                                            |                        
|                                                                            |                        
|SUPPLEMENTAL SCHEDULE OF CASH FLOW INFORMATION:                             |                        
|                                                                            |                        
|Taxes paid                                                                  |                        
|                                                                            |                        
|                                                                            |                        

The accompanying notes are an
integral part of the consolidated financial statements.

F - 5

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NOVA MEASURING
INSTRUMENTS LTD.CONSOLIDATED STATEMENTS OF CASH FLOWS(In thousands)

|SCHEDULE A |  | ADJUSTMENTS TO RECONCILE LOSS TO NET INCOME (LOSS) TO NET CASH USED IN OPERATING
ACTIVITIES
|---------- | - | -------------------------------------------------------------------------------------------

|                                                         | Year ended December 31,
|-------------------------------------------------------- | -----------------------
|
|
|
|
|Income and expense items not involving cash flows:       |                        
|                                                         |                        
|Depreciation                                             |                        
|                                                         |                        
|Loss from realization of available for sale securities   |                        
|                                                         |                        
|Technology for use in research and development           |                        
|                                                         |                        
|Amortization of deferred stock-based compensation        |                        
|                                                         |                        
|Increase (decrease) in liability for employee            |                        
|termination benefits, net                                |                        
|                                                         |                        
|                                                         |                        
|                                                         |                        
|                                                         |                        
|Changes in assets and liabilities:                       |                        
|                                                         |                        
|Increase in trade accounts receivable                    |                        
|                                                         |                        
|Decrease (increase) in other current assets and other    |                        
|long-term assets                                         |                        
|                                                         |                        
|Decrease (increase) in inventories                       |                        
|                                                         |                        
|Increase (decrease) in trade accounts payables and other |                        
|long-term liabilities                                    |                        
|                                                         |                        
|Increase in long-term deferred income                    |                        
|                                                         |                        
|Increase (decrease) in other current liabilities         |                        
|                                                         |                        
|                                                         |                        
|                                                         |                        
|                                                         |                        
|                                                         |                        
|                                                         |                        
|                                                         |                        

The accompanying notes are an
integral part of the consolidated financial statements.

F - 6

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NOVA MEASURING
INSTRUMENTS LTD. 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands,
except share and per share data)

# NOTE 1  GENERAL

| | A. | Business
Description
| | -- | --------------------

| | Nova
Measuring Instruments (the Company) was incorporated in May 1993 and
commenced operations in October 1993 in the design, development and production of
integrated process control systems, used in the manufacturing of semiconductors. In
October 1995, the Company began manufacturing and marketing its systems. In addition, the
Company is continuing research and development for the next generation of its products
and additional applications for such products. The Company operates in one operating
segment.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
Company has wholly owned subsidiaries in the United States of America (the U.S.),
Japan, The Netherlands and Taiwan. All companies (the subsidiaries) are
engaged in pre-sale activities and providing technical support to customers.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
industry in which the Company operates is characterized by rapid technological
development in a competitive environment. Substantially most of the Companys
current sales are derived from a single product line for use exclusively by the
semiconductor industry, whose business is highly cyclical. The Company depends on a
limited number of suppliers, and at times a sole supplier. Any disruption or termination
of the suppliersoperations may adversely affect the Companys production
capabilities. In addition, certain of the Companys development projects are in the
early stages and there can be no assurance that these projects will be successful.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
ordinary shares of the Company are traded on the NASDAQ National Market System since
April, 2000. The ordinary shares are also traded on the Tel-Aviv Stock Exchange, since
June, 2002.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | B. | Use
of Estimates in the Preparation of 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 and disclosure of contingent assets and liabilities as
of the date of the financial statements, and the reported amounts of revenues and
expenses during the reporting periods. Actual results could differ from those estimates.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

# NOTE 2 
SIGNIFICANT ACCOUNTING POLICIES

| | The
financial statements have been prepared in accordance with generally accepted accounting
principles (GAAP) in the United States of America.
| | -------------------------------------------------------------------------------------------------------------------------------------------------

| | The
following is a summary of the significant accounting policies, which were applied in the
preparation of these financial statements, on a consistent basis:
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 7

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---



NOVA MEASURING
INSTRUMENTS LTD. 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands,
except share and per share data)

# NOTE 2 
SIGNIFICANT ACCOUNTING POLICIES (Cont.)

| | A. | Financial
Statements in U.S. Dollars
| | -- | ------------------------------------

| | The
currency of the primary economic environment in which the operations of the Company and
its subsidiaries are conducted is the U.S. dollar (the dollar). Accordingly,
the Company uses the dollar as its functional and reporting currency. Certain of the
dollar amounts in the financial statements may represent the dollar equivalent of other
currencies, including the New Israeli Shekel (NIS), and may not be
exchangeable for dollars. Transactions and balances denominated in dollars are presented
at their dollar amounts. Non-dollar transactions and balances are remeasured into dollars
in accordance with the principles set forth in Statement of Financial Accounting
Standards (SFAS) No. 52, Foreign Currency Translation, of the
Financial Accounting Standards Board (FASB). Net financing income includes
translation gains (losses), which were immaterial for all years presented.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | B. | Principles
of Consolidation
| | -- | ---------------------------

| | The
Companys financial statements include the financial statements of the Company and
its subsidiaries (the Group) after elimination of material intercompany
transactions and balances.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | C. | Cash
and Cash Equivalents
| | -- | -------------------------

| | Cash
and cash equivalents are comprised of cash and demand deposits in banks and other
short-term, highly liquid investments (primarily interest-bearing time deposits and
commercial papers) with maturity dates not exceeding three months from the date of
deposit.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | D. | Allowance
for Doubtful Accounts
| | -- | -------------------------------

| | The
allowance for doubtful accounts is recorded on the specific identification basis. No
allowance was deemed necessary by management.
| | --------------------------------------------------------------------------------------------------------------------------------------

| | E. | Held
to Maturity Securities
| | -- | ---------------------------

| | Securities
held to maturity include investments in debt securities that the Company has positive
intent and ability to hold to maturity. Securities held to maturity are measured at
amortized cost.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | F. | Inventories
| | -- | -----------

| | Inventories
are presented at the lower of cost or market. Cost is determined as follows: Raw
materials  on the average cost basis. Finished products and work in process  at
actual cost (materials, labor and indirect manufacturing costs).
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 8

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NOVA MEASURING
INSTRUMENTS LTD. 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands,
except share and per share data)

# NOTE 2 -SIGNIFICANT
ACCOUNTING POLICIES (Cont.)

| | G. | Fixed
assets
| | -- | ------------

| | Fixed
assets are presented at cost, net of accumulated depreciation.
| | --------------------------------------------------------------------

| | Annual
depreciation is calculated based on the straight-line method over the shorter of the
estimated useful lives of the related assets or terms of the related leases. Annual
depreciation rates are as follows:
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|                               | %
|------------------------------ | -
|
|
|
|
|Electronic equipment           |  
|Office furniture and equipment |  
|Leasehold improvements         |  
|                               |  

| | In
accordance with SFAS No. 144, Accounting for Impairment or Disposal of Long-Lived
Assets of the FASB, which supercedes SFAS No. 121, management reviews long-lived
assets for impairment whenever events or changes in circumstances indicate that the
carrying amount of an asset may not be recoverable based on estimated future undiscounted
cash flows. If so indicated an impairment loss would be recognized for the difference
between the carrying amount of the asset and its fair value.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | H. | Accrued
Warranty Costs
| | -- | ----------------------

| | Accrued
warranty costs are calculated in respect of the warranty period on the Companys
products (generally one year) and are based on the Companys prior experience and in
accordance with managements estimate. See Note 5B for disclosure with regard to
accrued warranty costs.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | I. | Revenue
Recognition
| | -- | -------------------

| | The
Company recognizes revenues upon the shipment of its products to the customer or
provision of support service provided that persuasive evidence of an arrangement exists,
title has transferred, the price is fixed, collection of resulting receivables is
probable and there are no remaining significant obligations.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | J. | Research
and Development
| | -- | ------------------------

| | Research
and development costs are charged to operations as incurred. Amounts received or
receivable from the Government of Israel through the Office of the Chief Scientist (OCS)
as its participation in certain research and development projects are offset against the
Companys research and development costs. The accrual for grants receivable is
determined based on the terms of the programs, provided that the criteria for entitlement
have been met.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 9

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NOVA MEASURING
INSTRUMENTS LTD. 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands,
except share and per share data)

# NOTE 2 
SIGNIFICANT ACCOUNTING POLICIES (Cont.)

| | K. | Income
Taxes
| | -- | ------------

| | The
Group accounts for income taxes utilizing the asset and liability method in accordance
with SFAS No. 109, Accounting for Income Taxes of the FASB. Current tax
liabilities are recognized for the estimated taxes payable on tax returns for the current
year. Deferred tax liabilities or assets are recognized for the estimated future tax
effects attributable to temporary differences between the income tax bases of assets and
liabilities and their reported amounts in the financial statements, and for tax loss
carryforwards. Measurement of current and deferred tax liabilities and assets is based on
provisions of enacted tax laws, and deferred tax assets are reduced, if necessary, by the
amount of tax benefits, the realization of which is not considered likely based on
available evidence.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | L. | Stock-Based
Compensation
| | -- | ------------------------

| | The
Group accounts for employee stock-based compensation in accordance with Accounting
Principles Board Opinion No. 25, Accounting for Stock Issued to Employees and
in accordance with FASB Interpretation No. 44. Pursuant to these accounting
pronouncements, the Group records compensation for stock options granted to employees
over the vesting period of the options based on the difference, if any, between the
exercise price of the options and the market price of the underlying shares at the grant
date. With respect to variable awards, changes in the market price of the underlying
shares at each balance sheet date affect the aggregate amount of compensation recorded.
Deferred compensation is amortized to compensation expense over the vesting period of the
options. See below for pro forma disclosures required in accordance with SFAS No. 123,
Accounting for Stock-Based Compensation, as amended by SFAS 148.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Pro
forma Income (Loss) Per Share According to SFAS 123 and SFAS 148:
| | ---------------------------------------------------------------------

| | For
purposes of estimating fair value in accordance with SFAS 123, the Company utilized the
Black-Scholes option-pricing model. The following assumptions were utilized in such
calculations for the years 2004, 2003 and 2002 (all in weighted averages):
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|                           | 2004    | 2003    | 2002   
|-------------------------- | ------- | ------- | -------
|
|
|
|
|Risk-free interest rate    | 4%      | 1.4%    | 1.5%   
|Expected life of options   | 7 years | 7 years | 7 years
|Expected weekly volatility | 56%     | 82%     | 90%    
|Expected dividend yield    | none    | none    | none   
|                           |         |         |        

| | Had
compensation cost for the Companys stock option plans been determined based on fair
value at the grant dates for all awards made in 2004, 2003 and 2002 in accordance with
SFAS 123, as amended by SFAS 148, the Companys pro forma income (loss) per share
would have been as follows:
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 10

---

---



NOVA MEASURING
INSTRUMENTS LTD. 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands,
except share and per share data)

# NOTE 2 -SIGNIFICANT
ACCOUNTING POLICIES (Cont.)

| | L. | Stock-Based
Compensation (Cont.)
| | -- | --------------------------------

|                                                    | 2 0 0 4 | 2 0 0 3 | 2 0 0 2
|--------------------------------------------------- | ------- | ------- | -------
|
|
|
|
|Pro forma net income (loss)                         |         |         |        
|                                                    |         |        
|Net income (loss) for the year, as reported         |         |         | $      
|Deduct  - stock-based compensation determined under |         |        
|APB-25                                              |         |         |        
|Add - stock-based compensation determined           |         |        
|under SFAS 123                                      |         |         |        
|                                                    |         |         |        
|Pro forma net income (loss)                         |         |         | $      
|                                                    |         |         |        
|                                                    |         |        
|Pro forma earnings (loss) per share                 |         |        
|                                                    |         |        
|Basic - as reported                                 |         |         | $      
|                                                    |         |         |        
|Basic - pro forma                                   |         |         | $      
|                                                    |         |         |        
|Diluted- as reported                                |         |         | $      
|                                                    |         |         |        
|Diluted- pro forma                                  |         |         | $      
|                                                    |         |         |        

| | M. | Earnings
(Loss) per Share
| | -- | -------------------------

| | Earnings
(loss) per share are presented in accordance with SFAS 128 of the FASB, Earnings
per Share. Pursuant to this standard, basic earnings (loss) per share exclude the
dilutive effects of convertible securities and are computed by dividing income (loss)
available to common shareholders by the weighted-average number of common shares
outstanding for the period. Diluted earnings (loss) per share reflect the potential
dilutive effect of all convertible securities. Due to the anti-dilutive effect, basic
loss per share was equal to diluted loss per share for years 2003 and 2002. The number of
potentially dilutive securities excluded from diluted earnings per share due to the
anti-dilutive effect amounted to 754,109, 2,608,475 and 2,093,767 in 2004, 2003 and 2002,
respectively.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | N. | Derivative
Financial Instruments
| | -- | --------------------------------

| | SFAS
No. 133, Accounting for Derivative Instruments and Hedging Activities as
amended by SFAS No. 138 and SFAS 149, requires, principally, the presentation of all
derivatives as either assets or liabilities on the balance sheet and the measurement of
those instruments at fair value. Gains and losses resulting from changes in the fair
values of derivative instruments would be accounted for depending on the use of the
derivative and whether it qualifies for hedge accounting.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | See
Note 14 for disclosure of the derivative financial instruments in accordance with such
pronouncements.
| | ----------------------------------------------------------------------------------------------------------

F - 11

---

---



NOVA MEASURING
INSTRUMENTS LTD. 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands,
except share and per share data)

# NOTE 2 -SIGNIFICANT
ACCOUNTING POLICIES (Cont.)

| | O. | Reclassification
| | -- | ----------------

| | Certain
previously reported amounts have been reclassified in these financial statements in order
to conform with the 2004 financial statements presentation.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------

| | P. | New
Accounting Pronouncements
| | -- | -----------------------------

| | (1) | SFAS
No. 151  Inventory Costs, an Amendment of ARB No. 43, Chapter                4  In
November 2004 the FASB issued SFAS No. 151, Inventory                Costs, an
Amendment of ARB No. 43, Chapter 4". SFAS No. 151 amends the                guidance
in ARB 43, Chapter 4, Inventory Pricing, which provides
               guidance on the allocation of certain costs to inventory. SFAS 151
clarifies                that abnormal amounts of idle facility expense, freight,
handling costs, and                wasted material (spoilage) should be recognized as
current-period charges. In                addition, SFAS 151 requires that allocation of
fixed production overheads to the                costs of conversion be based on the
normal capacity of the production                facilities. The provisions of this
statement are effective for inventory costs                incurred during fiscal years
beginning after June 2005. The provisions of this                statement shall be
applied prospectively. The Company is assessing the impact of                the adoption
of this Standard, and currently estimates that its adoption is not
               expected to have a material effect on the Companys financial
position and                results of operations.
| | --- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | (2) | SFAS
No. 123 (revised 2004) Share Based Payments  In
               December 2004, the FASB issued SFAS No. 123 (revised 2004) Share
Based                Payments (SFAS 123(R)). This Statement is a
revision of FASB                Statement No. 123, Accounting for Stock-Based
Compensation, which                supersedes APB Opinion No. 25, Accounting
for Stock Issued to                Employees and its authoritative interpretations.
| | --- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | SFAS
123(R) establishes standards for the accounting for transactions in which an entity
exchanges its equity instruments for goods or services; focuses primarily on accounting
for transactions in which an entity obtains employee and directors services in
share-based payment transactions; and does not change the accounting guidance for
share-based payment transactions with parties other than employees.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | SFAS
123(R) eliminates the alternative to use APB 25s intrinsic value method of
accounting that was provided in SFAS 123 as originally issued and requires to measure the
cost of employee services received in exchange for an award of equity instruments based
on the grant-date fair value of the award. The fair-value-based method in this Statement
is similar to the fair-value-based method in SFAS 123 in most respects. The costs
associated with the awards will be recognized over the period during which an employee is
required to provide service in exchange for the award  the requisite service period
(usually the vesting period).
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
grant-date fair value of employee share options and similar instruments will be estimated
using option-pricing models adjusted for the unique characteristics of those instruments
(unless observable market prices for the same or similar instruments are available). If
an equity award is modified after the grant date, incremental compensation cost will be
recognized in an amount equal to the excess of the fair value of the modified award over
the fair value of the original award immediately before the modification.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 12

---

---



NOVA MEASURING
INSTRUMENTS LTD. 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands,
except share and per share data)

# NOTE 2 -SIGNIFICANT
ACCOUNTING POLICIES (Cont.)

| | P. | New
Accounting Pronouncements (cont.)
| | -- | -------------------------------------

| | The
provisions of SFAS 123(R) apply to all awards to be granted by the Company after June 30,
2005 and to awards modified, repurchased, or cancelled after that date. When initially
applying the provisions of SFAS 123(R), in the third quarter of 2005, the Company will be
required to elect between using either the modified prospective method or the
modified retrospective method. Under the modified prospective method, the
Company is required to recognize compensation cost for all awards granted after the
adoption of SFAS 123(R) and for the unvested portion of previously granted awards that
are outstanding on that date. Under the modified retrospective method, the Company is
required to restate its previously issued financial statements to recognize the amounts
previously calculated and reported on a pro forma basis, as if the original provisions of
SFAS 123 had been adopted. Under both methods, it is permitted to use either a straight
line or an accelerated method to amortize the cost as an expense for awards with graded
vesting.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Management
has recently commenced identifying the potential future impact of applying the provisions
of SFAS 123(R), including each of its proposed transition methods, yet is currently
unable to fully quantify the effect of this Standard on the Companys future
financial position and results of operations. Nonetheless, it is expected that the
adoption of SFAS 123(R) will increase the stock-based-award expenses the Company is to
record in the future in comparison to the expenses recorded under the guidance currently
applied by the Company.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | (3) | SFAS
No. 153, Exchange of Non-Monetary Assets  In December 2004,                the
FASB issued SFAS No. 153, Exchanges of Nonmonetary Assets an amendment
               of APB No. 29". This Statement amends Opinion 29 to eliminate the
exception                for nonmonetary exchanges of similar productive assets and
replaces it with a                general exception for exchanges of nonmonetary assets
that do not have                commercial substance. The Statement specifies that a
nonmonetary exchange has                commercial substance if the future cash flows of
the entity are expected to                change significantly as a result of the
exchange. This Statement is effective                for nonmonetary asset exchanges
occurring in fiscal periods beginning after June                15, 2005. Earlier
application is permitted for nonmonetary asset exchanges                occurring in
fiscal periods beginning after the date this Statement is issued.
               Retroactive application is not permitted. The Company is assessing the
impact of                the adoption of this Standard, and currently estimates that its
adoption in not                expected to have a material effect on the Companys
financial position and                results of operations.
| | --- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

# NOTE 3 -INVENTORIES

| | A. | 
| | -- | 

|                | December 31,
|--------------- | ------------
|
|
|
|
|Raw materials   |             
|Work in process |             
|Finished goods  |             
|                |             
|                |             
|                |             
|                |             

| | B. | In
the years ended December 31, 2004 and 2003 the Company wrote down inventory
               in the amounts of $250 and $725, respectively
| | -- | -------------------------------------------------------------------------------------------------------------------------------------------

F - 13

---

---



NOVA MEASURING
INSTRUMENTS LTD. 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands,
except share and per share data)

# NOTE 4 -FIXED ASSETS, NET

|                                           | December 31,
|------------------------------------------ | ------------
|
|
|
|
|Cost:                                      |             
|Electronic equipment                       |             
|Office furniture and equipment             |             
|Leasehold improvements                     |             
|                                           |             
|                                           |             
|                                           |             
|                                           |             
|Accumulated depreciation and amortization: |             
|Electronic equipment                       |             
|Office furniture and equipment             |             
|Leasehold improvements                     |             
|                                           |             
|                                           |             
|                                           |             
|Net book value                             |             
|                                           |             

# NOTE 5 -OTHER CURRENT
LIABILITIES

| | A. | 
| | -- | 

|                                     | December 31,
|------------------------------------ | ------------
|
|
|
|
|Accrued salaries and fringe benefits |             
|Accrued warranty costs (See B below) |             
|Governmental institutions            |             
|Other                                |             
|                                     |             
|                                     |             
|                                     |             

| | B. | Accrued
warranty costs:
| | -- | -----------------------

|                                 | December 31,
|-------------------------------- | ------------
|
|
|
|
|Balance as of beginning of year  |             
|Services provided under warranty |             
|Changes in provision             |             
|                                 |             
|Balance as of end of year        |             
|                                 |             

# NOTE 6 -ACCRUED
SEVERANCE PAY

| | Israeli
law and labor agreements determine the obligations of the Company to make severance
payments to dismissed employees and to employees leaving employment under certain other
circumstances. The obligation for severance pay benefits, as determined by Israeli law, is
based upon length of service and the employees most recent salary. The liability is
partially covered through insurance policies purchased by the Company and deposits in a
severance fund.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Severance-pay
expense amounted to $691, $614 and $381 for 2004, 2003 and 2002, respectively.
| | --------------------------------------------------------------------------------------------

F - 14

---

---



NOVA MEASURING
INSTRUMENTS LTD. 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands,
except share and per share data)

# NOTE 7 -COMMITMENTS AND
CONTINGENT LIABILITIES

| | A. | The
Company has received grants in the aggregate amount of $7,485 from the OCS,
               as its participation of up to 50% of certain development costs. In
consideration                for such grants, the Company has undertaken to pay royalties
amounting to                3%-3.5% of the net sales of products developed, directly or
indirectly, from the                projects financed, not to exceed 100% of the grants
received. Refund of the                grants thereon is contingent on future sales and
the Company has no obligation                to refund grants if sufficient sales are not
generated. During the fourth                quarter of 2003, the OCS has approved the
Companys request to allocate                $2,203 from the grants provided by it
to a specific lithography project, to be                repaid as royalties only from
sales of lithography products. As a result, the                Company has canceled a
provision in the total amount of $2,203, made by it                mainly in prior years.
Such cancellation is included as Other Operating Income                in the Statement
of Operations for the year ended December 31, 2003. Royalty                expense
amounted to $ 0, $656, and $722 for the years 2004, 2003 and 2002,
               respectively. The balance of the contingent liability to the OCS as of
December                31, 2004 was approximately $4,035 (including $2,203 with respect
to the                lithography project, as mentioned above).
| | -- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | B. | The
Group rents its facilities under various operating lease agreements, which
               expire on various dates, the latest of which is in 2007. The minimum
rental                payments are as follows:
| | -- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|Year | Amount (US dollars)
|---- | -------------------
|
|
|
|
|2005 |                    
|2006 |                    
|2007 |                    
|     |                    

| | Rental
expense for the facilities amounted to $1,248, $851 and $884 for the years 2004, 2003 and
2002, respectively.
| | --------------------------------------------------------------------------------------------------------------------

| | C. | The
Company leases vehicles under various operating lease agreements, which
               expire on various dates, the latest of which is in 2007. The minimum
rental                payments are as follows:
| | -- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|Year | Amount (US dollars)
|---- | -------------------
|
|
|
|
|2005 |                    
|2006 |                    
|2007 |                    
|     |                    

| | Vehicle
lease expense amounted to $669, $516 and $665 for the years 2004, 2003 and 2002,
respectively.
| | ------------------------------------------------------------------------------------------------------

| | D. | A
major customer who was a related party until August 2001 (the Former
               Related Party), has notified the Company that a lawsuit has been
filed                against it by a third party. The suit alleges that the Former
Related Party,                while using the Companys products, has infringed upon
numerous U.S.                patents owned by the third party. According to the agreement
between the Company                and the Former Related Party, the Company is to assume
responsibility and to                indemnify the Former Related Party for any losses
with regard to such suit. The                Company is unable to determine at this time
with any certainty the ultimate                outcome of the aforementioned issue and
its effect, if any, on the                Companys financial condition, operating
results and business.
| | -- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | E. | On
February 2002 the Company signed a technology-license agreement, according to
               which the Company received a patent usage right as well as equipment in
exchange                for $1,502 and future payments of royalties of 5% of the net
revenues of the                products developed from the abovementioned technology. The
Company had no                liability with respect to such obligation, through December
31, 2004.
| | -- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 15

---

---



NOVA MEASURING
INSTRUMENTS LTD. 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands,
except share and per share data)

# NOTE 7 -COMMITMENTS AND
CONTINGENT LIABILITIES (Cont.)

| | F. | In
the last few months the Israeli Tax Authorities are approaching Israeli
               public companies and other entities with a request to provide certain
               information relating to the stamping of commercial documents in Israel. To
the                best of the Companys knowledge such companies and entities are
arguing                that the request contradicts the common practice in Israel.
Management estimates                that the Companys exposure, if any, in
connection with this request is not                expected to have a material effect on
the Companys financial position and                results of operations.
| | -- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

# NOTE 8
-SHAREHOLDERS EQUITY

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

| | 2. | During
2002 the Company converted 1,057,021 issued and outstanding deferred E
               shares into 551 ordinary shares, and 1,100,000 authorized deferred E
shares into                1,100,000 authorized ordinary shares.
| | -- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | 3. | Since
2003, the Company sponsors an employee stock purchase plan (ESPP) for the
               benefit of its employees. Under the ESPP, substantially all employees may
               purchase the Companys ordinary shares through payroll deductions at
a                price equal to 85 percent of the lower of fair market value at the
beginning or                end of each six-month offering period. Shares purchases under
the ESPP are                limited to a maximum aggregate of 150,000 shares. In 2004 and
2003 the Company                issued 96,443 and 43,585, respectively shares under the
ESPP.
| | -- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | B. | Rights
of Shares
| | -- | ----------------

| | Holders
of ordinary shares are entitled to participate equally in the payment of cash dividends
and bonus shares (stock dividends) and, in the event of the liquidation of the Company,
in the distribution of assets after satisfaction of liabilities to creditors. Each
ordinary share is entitled to one vote on all matters to be voted on by shareholders.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | C. | Share
Option Plans
| | -- | ------------------

| | The
Companys Board of directors approves, from time to time, employee share option
plans, the last of which was approved in December 2004. The options usually vest over
four years and their term may not exceed 7 years. The exercise price of each option is
usually the market price of the underling share at the date of each grant.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Through
December 31, 2004, 5,730,822 share options have been issued under the plans, of which
1,621,488 options have been exercised, 314,700 options have been forfeited, 164,256 have
been terminated and 1,575,108 options were exercisable as of December 31, 2004.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
weighted average fair value (in dollars) of the options granted during 2004, 2003 and
2002,according to Black-Scholes option-pricing model, amounted to $2.11, $1.43 and
$0.82 per option, respectively. Fair value was determined on the basis of the price of
the Companys share.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 8

---

---

NOVA MEASURING
INSTRUMENTS LTD. 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands,
except share and per share data)

# NOTE 8
-SHAREHOLDERS EQUITY (Cont.)

| | C. | Share
Option Plans (cont.)
| | -- | --------------------------

| | A
summary of the status of the Companys share option plans as of December 31,
2004, 2003 and 2002, as well as changes during each of the years then ended, is
presented below:
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|                           | 2 0 0 4 | 2 0 0 3 | 2 0 0 2
|-------------------------- | ------- | ------- | -------
|
|
|
|
|Outstanding - beginning of |         |         |        
|year                       |         |         |        
|Granted                    |         |         |        
|Exercised                  |         |         |        
|Terminated                 |         |         |        
|Forfeited                  |         |         |        
|                           |         |         |        
|Outstanding -              |         |        
|year end                   |         |         |        
|                           |         |         |        
|                           |         |        
|Options exercisable at     |         |        
|year-end                   |         |         |        
|                           |         |         |        

| | The
following table summarizes information about share options outstanding as of December 31,
2004:
| | ---------------------------------------------------------------------------------------------------

|Outstanding as of
December 31, 2004 | Exercisable as of
December 31, 2004
|----------------------------------- | -----------------------------------
|
|
|
|
|0.0025                              |                                    
|2.06                                |                                    
|2.46-3.69                           |                                    
|3.4                                 |                                    
|4.01                                |                                    
|5.15                                |                                    
|5.16                                |                                    
|6.27-7.37                           |                                    
|                                    |                                    
|                                    |                                    
|                                    |                                    
|                                    |                                    

F - 17

---

---

NOVA MEASURING
INSTRUMENTS LTD. 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands,
except share and per share data)

# NOTE 9  OTHER
LONG-TERM LIABILY

| | In
February 2002, the Company signed an agreement for the licensing of certain know-how and
technology, to be used in one of the Companys specific research and development
programs and which has no alternative use. In accordance with the principles set forth in
SFAS 2 these costs have been charged to the statement of operations in the year ended
December 31, 2002, at the present value of the minimum payments to be made under the
agreement.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

# NOTE 10 -OTHER OPERATING
EXPENSES (INCOME)

| | The
amount for the year ended December 31, 2003 represents cancellation of a provision with
respect to royalties to the OCS (see Note 7A.).
| | -------------------------------------------------------------------------------------------------------------------------------------------

# NOTE 11 -INCOME TAXES

| | A. | Law
for the Encouragement of Capital Investments  1959
| | -- | -------------------------------------------------------

| | In
October 1995, the Company was granted approved enterprise status under the
tax-exempt benefit track, as provided by the Israeli Law for the Encouragement of Capital
Investments  1959, for an investment program in the aggregate amount of $732 (the
first program). The Company had completed the investments under the program, which
received the approval of the Investments Center. The tax-exempt benefit track provides
for a tax exemption on undistributed earnings derived from assets included in the
approved enterprise investment program for the first four years of the seven-year benefit
period and a 25% tax rate for the remaining three years of the benefit period. Pursuant
to the tax-exempt benefit track, the Company is liable for tax at a 25% rate on
distributions to shareholders of earnings subject to the exemption.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | In
December 1999, the Company was granted another approved enterprise status for
an investment expansion program in the aggregate amount of $3,229 (the second
program) under the tax-exempt benefit track. The Company had completed the
investments under the expansion program and filled the final report with respect to this
plan. The tax-exempt benefit track provides for a tax exemption on undistributed earnings
derived from assets included in the approved enterprise investment program for the first
two years of the seven-year benefit period and a 25% tax rate for the remaining five
years of the benefit period. Pursuant to the tax-exempt benefit track, the Company is
liable for tax at a 25% rate on distributions to shareholders of earnings subject to the
exemption.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | In
January 2005, the Company was granted another approved enterprise status for
an investment expansion program in the aggregate amount of $1,000 (the third program)
under the tax-exempt benefit track. The tax-exempt benefit track, once approved, provides
for a tax exemption on undistributed earnings derived from assets included in the
approved enterprise investment program for the first two years of the seven-year benefit
period and a 25% tax rate for the remaining five years of the benefit period. Pursuant to
the tax-exempt benefit track, the Company is liable for tax at a 25% rate on
distributions to shareholders of earnings subject to the exemption.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
period in which the Company is entitled to the abovementioned tax benefits is limited to
seven years from the first year that taxable revenues are generated, and such benefits
must be utilized within 12 years from the year that operation (as defined) of the
approved enterprise commences, or 14 years from the year the approval is granted,
whichever is earlier. Accordingly, under the existing conditions, the tax benefits period
under the above-mentioned first, second and third programs ends in 2006, 2012 and 2018,
respectively.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 18

---

---

NOVA MEASURING
INSTRUMENTS LTD. 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands,
except share and per share data)

# NOTE 11 -INCOME TAXES
(Cont.)

| | A. | Law
for the Encouragement of Capital Investments  1959 (cont.)
| | -- | ---------------------------------------------------------------

| | Dividends
paid from earnings that benefited from the approved enterprise tax status are subject to
a 15% tax to the recipient (for a period of 12 years from the end of the seven-year
benefit period), whereas dividends paid out of other earnings are subject to tax to the
recipient at the rate of 25% (or lower if paid to a treaty country), except when paid to
another Israeli company, in which case such dividends are exempt from tax.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
income of the Company that is not derived from assets, which are eligible for reduced
taxation benefits, as described above, is taxed at the statutory rate for Israeli
companies (see H below).
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
above tax benefits are conditioned upon fulfillment of the requirements stipulated by the
aforementioned law and the regulations promulgated there under, as well as the criteria
set forth in the certificates of approval. In the event of failure by the Company to
comply with these conditions, the tax benefits could be canceled, in whole or in part,
and the Company would be required to refund the amount of the canceled benefits, plus
interest and certain inflation adjustments.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | If
the investments of non-Israeli investors (as such investments are defined by the Law)
will exceed 25% then the seven-year benefit period mentioned above may be extended to ten
years. If the investments of non-Israeli investors is 49% or more, then the rate of tax
on earnings derivedfrom assets included in the approved enterprise investment
program will decrease to 10%  20%, depending on the level of ownership by
non-Israeli investors, examined on a yearly basis.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | B. | Law
for the Encouragement of Industry (Taxation), 1969
| | -- | ------------------------------------------------------

| | The
Company is an industrial company under the Law for the encouragement of
Industry (Taxation), 1969 and, therefore, is entitled to certain tax benefits, mainly
accelerated rates of depreciation.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | C. | Taxation
Under Inflationary Conditions
| | -- | --------------------------------------

| | The
Company reports for tax purposes in accordance with the provisions of the Income Tax Law
(Adjustments Due to Inflation)  1985, under which taxable income is measured in
terms of NIS adjusted for changes in the Israeli Consumer Price Index.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | D. | Deferred
Taxes
| | -- | --------------

| | The
Company has accumulated losses for Israeli tax purposes as of December 31, 2004 in the
amount of approximately $43,000. At such date, other temporary differences were
approximately $ 7,000.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
Israeli tax loss carryforwards have no expiration date. The Company expects that during
the period these losses are utilized, its undistributed earnings will be tax exempt.
Since the Company has no intention to distribute such earnings, there will be no tax
benefit available from such tax losses and no deferred taxes have been included in these
financial statements for these losses.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | As
of December 31, 2004, the subsidiaries had a net operating loss carryforward of
approximately $1,290. A valuation allowance in the amount of approximately $515,
representing the entire benefit, was recorded regarding such loss.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 19

---

---

NOVA MEASURING
INSTRUMENTS LTD. 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands,
except share and per share data)

# NOTE 11 -INCOME TAXES
(Cont.)

| | E. | Effective
Tax Rates
| | -- | -------------------

| | The
Companys effective tax rates differ from the statutory rates applicable to the
Company for all years presented due primarily to its approved enterprise status (see A
above) and the tax loss carry-forward.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | F. | Tax
Assessments
| | -- | ---------------

| | The
Company received final tax assessments until and including tax year 2001.
| | -----------------------------------------------------------------------------

| | G. | In light of losses for both financial reporting and tax purposes in 2002 and
               2003, a reconciliation of the effective income tax rate has not been presented.
               In 2004, theoretical income taxes on the Companys pre-tax
               income were primarily reduced by the utilization of tax loss carryforward from
               prior years for which a deferred tax asset had not been recorded and reduced tax
               rates related to approved enterprise.
| | -- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | H. | Tax
Rates
| | -- | ---------

| | In
2004 the Israeli Knesset approved a law for the amendment of the Income Tax Ordinance,
according to which the regular corporate tax rate is to be reduced gradually and annually
from 36% to 35% for 2005 tax year ending in 30% for 2007 tax year.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

# NOTE 12 -GEOGRAPHIC
AREAS AND MAJOR CUSTOMERS

| | A. | Sales
by geographic area (as percentage of total sales):
| | -- | --------------------------------------------------------

|                                     | Year ended December 31,
|------------------------------------ | -----------------------
|
|
|
|
|USA                                  |                        
|Europe - primarily Italy, France and |                        
|Germany                              |                        
|Japan                                |                        
|Other                                |                        
|                                     |                        
|Total                                |                        
|                                     |                        
|                                     |                        

| | B. | Sales
by major customers (as percentage of total sales):
| | -- | --------------------------------------------------------

|           | Year ended December 31,
|---------- | -----------------------
|
|
|
|
|Customer A |                        
|Customer B |                        
|Customer C |                        
|Customer D |                        

| | C. | Assets
by location
| | -- | ------------------

| | Substantially
all fixed assets are located in Israel.
| | -----------------------------------------------------

F - 20

---

---

NOVA MEASURING
INSTRUMENTS LTD. 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands,
except share and per share data)

# NOTE 13 -TRANSACTIONS
AND BALANCES WITH RELATED PARTIES

| | The
total directors fees (including the chairman of the Board) for the year 2004
amounted to $103 (2003  $122, 2002 -$50). Number of options granted to directors
amounted 380,000 and 200,000 in 2004 and 2003 respectively.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

# NOTE 14  FINANCIAL
INSTRUMENTS

| | A. | Fair
value of financial instruments
| | -- | -----------------------------------

| | A
financial instrument is defined as cash, evidence of an ownership interest in an entity,
or a contract that impose on one entity a contractual obligation either to deliver cash
or receive cash or another financial instrument to or from a second entity. Examples of
financial instruments include cash and cash equivalents, short-term interest-bearing bank
deposits, held to maturity securities, trade accounts receivable, investments, trade
accounts payable, accrued expenses, options and forward contracts.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | At
December 31, 2004 and 2003 the fair market value of the Companys financial
instruments did not materially differ from their respective book value.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------

| | B. | Hedging
activities
| | -- | ------------------

| | In
2001, the Company entered into several currency-forward transactions (NIS/dollar) of
$8,750 with settlement dates ranging from January to June 2002, designed to reduce
cash-flow exposure to the impact of exchange-rate fluctuations on firm commitments of
$12,000. In accordance with SFAS 133 the Company recorded in 2001 an unrealized decrease
of $212 in fair market value in other comprehensive loss. The corresponding
liability was separately reported as fair market value of forward contractswithin
other current liabilities. In 2002 this decrease was charged to operations on
the relevant settlement dates.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | In
2003, the company entered into currency-forward transaction (NIS/dollar) of $400 with a
settlement date of January 2004, designed to reduce cash-flow exposure to the impact of
exchange-rate fluctuations on firm commitments of $400. In accordance with SFAS 133 the
Company recorded in 2003 an increase of $13 in fair market value in Other
Comprehensive Income. In 2004 this increase was charged to operations on the
relevant settlement dates. In 2004, the company entered into currency-forward
transaction, to currency-put option and to currency-call option (NIS/dollar, Euro/dollar,
Yen/dollar) of $7,700 with settlement date through 2005, designed to reduce cash-flow
exposure to the impact of exchange-rate fluctuations on firm commitments of $7,700. In
accordance with SFAS 133 the Company recorded in 2004 an increase of $8 in fair market
value in Other Comprehensive Income.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 21

---

---

# EXHIBIT INDEX

|Number |  | Description
|------ |  | -----------

|1.1 |  | Articles
of Association (incorporated by reference to exhibit 3.1 to the Company's Registration
         Statement on Form F-1 (registration number 333-11640))
|--- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------

|1.2 |  | First
Amendment to the Company's Articles of Association (incorporated by reference to the
         Company's Current Report on Form 6-K filed on June 4, 2002)
|--- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.1 |  | 1997
Stock Option Plan (Plan 2) (incorporated by reference to exhibit 10.1 to the Company's
         Registration Statement on Form F-1 (registration number 333-11640))
|--- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.2 |  | Option
Plan 3 (incorporated by reference to exhibit 10.2 to the Company's Registration Statement
         on Form F-1 (registration number 333-11640))
|--- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------

|4.3 |  | Option
Plan 4A and 4B (incorporated by reference to exhibit 10.3 to the Company's Registration
         Statement on Form F-1 (registration number 333-11640))
|--- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.4 |  | Option
Plan 5 (incorporated by reference to Exhibit 4.4 to the Company's Annual Report for 20-F
         for 2002 filed May 9, 2002
|--- |  | -----------------------------------------------------------------------------------------------------------------------------------

|4.5 |  | Option
Plan 6 (incorporated by reference to Exhibit 4.1 to the Company's Registration Statement
         on Form S-8 filed December 24, 2002 (registration number 333-102193))
|--- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.6 |  | Employment
Agreement between Nova and Giora Dishon (incorporated by reference to exhibit 10.4 to
         the Company's Registration Statement on Form F-1 (registration number 333-11640))
|--- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.7 |  | Employment
Agreement between Nova and Moshe Finarov (incorporated by reference to exhibit 10.6
         to the Company's Registration Statement on Form F-1 (registration number
333-11640))
|--- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.8 |  | Employment
Agreement between Nova and Chai Toren (incorporated by reference to exhibit 10.7 to
         the Company's Registration Statement on Form F-1 (registration number 333-11640))
|--- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.9 |  | Employment
Agreement between Nova and Ronen Frish (incorporated by reference to exhibit 10.8 to
         the Company's Registration Statement on Form F-1 (registration number 333-11640))
|--- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.10 |  | Agreements
between Nova and the Office of the Chief Scientist in Israel (incorporated by
         reference to exhibit 10.10 to the Company's Registration Statement on Form F-1
(registration          number 333-11640))
|---- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.11 |  | Certificate
of Approval from the Investment Center in Israel (incorporated by reference to
         exhibit 10.11 to the Company's Registration Statement on Form F-1 (registration
number          333-11640))
|---- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.12 |  | Lease
Agreement between Nova and Ef-Shar Ltd. (incorporated by reference to Exhibit 4.14 to the
         Company's Annual Report on Form 20-F filed on May 9, 2002)
|---- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.13 |  | Summary
of Lease Agreement between Nova and Ef-Shar Ltd. (incorporated by reference to Exhibit
         4.15 to the Company's Annual Report on Form 20-F filed on May 9, 2002)
|---- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.14 |  | Letter
Agreement between Barry Cox and the Company dated May 15, 2003 (incorporated by reference
         to Exhibit 4.1 to the Company's Registration Statement on Form S-8 filed on May
17, 2004          (registration number 333-115556))
|---- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.15 |  | Employee
Stock Purchase Plan 1 (incorporated herein by reference to Exhibit 4.1 to the Company's
         Registration Statement on Form S-8 filed on March 24, 2003 (File No. 33-103981))
|---- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.16 |  | Letter
of Indemnification and Exculpation for certain directors, officers and/or employees
         (incorporated herein by reference Annex A to the Company's Current Report on
Form 6-K filed on          October 8, 2002)
|---- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.17 |  | Option
Plan 7A (incorporated by reference to Exhibit 4.1. to the Company's Registration
         Statement on Form S-8 filed on May 17, 2004 (registration number 333-115554))
|---- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.18 |  | Option
Plan 7B (incorporated by reference to Exhibit 4.1 to the Company's Registration Statement
         on Form S-8 filed on March 7, 2005 (registration number 333-123158)
|---- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|8 |  | List
of Subsidiaries (filed herewith)
|- |  | -------------------------------------

|12.1 |  | Certification
required by Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended
                  (filed herewith)
|---- |  | ------------------------------------------------------------------------------------------------------------------------------

|12.2 |  | Certification
required by Rule 13a-14(a) of the Securities Exchange Act of 1934, as amended
                  (filed herewith)
|---- |  | ------------------------------------------------------------------------------------------------------------------------------

|13.1 |  | Certification
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (filed herewith)
|---- |  | ----------------------------------------------------------------------------------------

|13.2 |  | Certification
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (filed herewith)
|---- |  | ----------------------------------------------------------------------------------------

|14.1 |  | Consent
of Brightman Almagor & Co. (filed herewith)
|---- |  | ---------------------------------------------------



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