SECURITIES AND EXCHANGE COMMISSION
                              WASHINGTON D.C. 20549
                                    FORM 20-F

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

                                       or

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

                                       or

           [ ]  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: 0-15375

                         RADA ELECTRONIC INDUSTRIES LTD.
              (Exact Name of Registrant as Specified in Its Charter
               and Translation of Registrant's Name Into English)

                                     Israel
                 (Jurisdiction of Incorporation or Organization)

                 7 Giborei Israel Street, Netanya 42504, Israel
                    (Address of Principal Executive Offices)

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

 Securities registered or to be registered pursuant to Section 12(g) of the Act:
                      Ordinary Shares, NIS 0.005 Par Value
                                (Title of Class)

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

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

     Ordinary Shares, par value NIS 0.005 per share............. 20,448,364

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

                                 Yes [X] No [ ]

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

                            Item 17 [ ] Item 18 [X]

This annual report on Form 20-F is incorporated by reference into the
registrant's Registration Statements on Form F-3, Registration Nos. 333-12074
333-115598 and 333-117954.


<PAGE>


                                TABLE OF CONTENTS

<TABLE>
<CAPTION>
                                                                             Page No.
                                                                            ---------
<S>                                                                                <C>
PART I.....................................................................         1

ITEM 1.   IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS............         1
ITEM 2.   OFFER STATISTICS AND EXPECTED TIMETABLE..........................         1
ITEM 3.   KEY INFORMATION..................................................         1
          A.     Selected Financial Data...................................         1
          B.     Capitalization and Indebtedness...........................         2
          C.     Reasons for the Offer and Use of Proceeds.................         2
          D.     Risk Factors..............................................         2
ITEM 4.   INFORMATION ON THE COMPANY......................................         14
          A.     History and Development of the Company...................         14
          B.     Business Overview........................................         15
          C.     Organizational Structure.................................         27
          D.     Property, Plants and Equipment...........................         28
ITEM 5.   OPERATING AND FINANCIAL REVIEW AND PROSPECTS....................         28
          A.     Operating Results........................................         28
          B.     Liquidity and Capital Resources..........................         36
          C.     Research and Development, Patents and Licenses...........         39
          D.     Trend Information........................................         39
          E.     Off-Balance Sheet Arrangements...........................         40
          F.     Tabular Disclosure of Contractual Obligations............         40
ITEM 6.   DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES......................         41
          A.     Directors and Senior Management..........................         41
          B.     Compensation.............................................         44
          C.     Board Practices..........................................         44
          D.     Employees................................................         51
          E.     Share Ownership..........................................         52
ITEM 7.   MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS...............         55
          A.     Major Shareholders.......................................         55
          B.     Related Party Transactions...............................         57
          C.     Interests of Experts and Counsel.........................         57
ITEM 8.   FINANCIAL INFORMATION...........................................         58
          A.     Consolidated Statements and Other Financial Information..         58
          B.     Significant Changes......................................         61
ITEM 9.   THE OFFER AND LISTING...........................................         61
          A.     Offer and Listing Details................................         61
          B.     Plan of Distribution.....................................         62
          C.     Markets..................................................         62
          D.     Selling Shareholders.....................................         62
          E.     Dilution.................................................         62
          F.     Expense of the Issue.....................................         62
ITEM 10.  ADDITIONAL INFORMATION..........................................         63
          A.     Share Capital............................................         63
          B.     Memorandum and Articles of Association...................         63
          C.     Material Contracts.......................................         66
</TABLE>


                                      -i-
<PAGE>


<TABLE>
<S>                                                                                <C>
          D.     Exchange Controls........................................         66
          E.     Taxation.................................................         66
          F.     Dividend and Paying Agents...............................         74
          G.     Statement by Experts.....................................         74
          H.     Documents on Display.....................................         74
          I.     Subsidiary Information...................................         75
ITEM 11.  QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISKS......         75
ITEM 12.  DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES..........         75

PART II...................................................................         76

ITEM 13.  DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES.................         76
ITEM 14.  MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS
          AND USE OF PROCEEDS.............................................         76
ITEM 15.  CONTROLS AND PROCEDURES.........................................         76
ITEM 16.  RESERVED........................................................         76
ITEM 16A. AUDIT COMMITTEE FINANCIAL EXPERT................................         76
ITEM 16B. CODE OF ETHICS..................................................         77
ITEM 16C. PRINCIPAL ACCOUNTING FEES AND SERVICES..........................         77
ITEM 16D. EXEMPTIONS FROM THE LISTING REQUIREMENTS AND STANDARDS FOR
          AUDIT COMMITTEE.................................................         77
ITEM 16E. PURCHASE OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATES
          AND PURCHASERS..................................................         78

PART III..................................................................         78

ITEM 17.  FINANCIAL STATEMENTS............................................         78
ITEM 18.  FINANCIAL STATEMENTS............................................         78
ITEM 19.  EXHIBITS........................................................         78
S I G N A T U R E S.......................................................         80
</TABLE>


                                      -ii-
<PAGE>


      THIS ANNUAL REPORT ON FORM 20-F CONTAINS VARIOUS "FORWARD-LOOKING
STATEMENTS" WITHIN THE MEANING OF SECTION 27A OF THE SECURITIES ACT OF 1933, AS
AMENDED, AND SECTION 21E OF THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED, AND
WITHIN THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995, AS AMENDED. SUCH
FORWARD-LOOKING STATEMENTS REFLECT OUR CURRENT VIEW WITH RESPECT TO FUTURE
EVENTS AND FINANCIAL RESULTS. FORWARD-LOOKING STATEMENTS USUALLY INCLUDE THE
VERBS "ANTICIPATES," "BELIEVES," "ESTIMATES," "EXPECTS," "INTENDS," "PLANS,"
"PROJECTS," "UNDERSTANDS" AND OTHER VERBS SUGGESTING UNCERTAINTY. WE REMIND
READERS THAT FORWARD-LOOKING STATEMENTS ARE MERELY PREDICTIONS AND THEREFORE
INHERENTLY SUBJECT TO UNCERTAINTIES AND OTHER FACTORS AND INVOLVE KNOWN AND
UNKNOWN RISKS THAT COULD CAUSE THE ACTUAL RESULTS, PERFORMANCE, LEVELS OF
ACTIVITY, OR OUR ACHIEVEMENTS, OR INDUSTRY RESULTS, TO BE MATERIALLY DIFFERENT
FROM ANY FUTURE RESULTS, PERFORMANCE, LEVELS OF ACTIVITY, OR OUR ACHIEVEMENTS
EXPRESSED OR IMPLIED BY SUCH FORWARD-LOOKING STATEMENTS. READERS ARE CAUTIONED
NOT TO PLACE UNDUE RELIANCE ON THESE FORWARD-LOOKING STATEMENTS, WHICH SPEAK
ONLY AS OF THE DATE HEREOF. WE UNDERTAKE NO OBLIGATION TO PUBLICLY RELEASE ANY
REVISIONS TO THESE FORWARD-LOOKING STATEMENTS TO REFLECT EVENTS OR CIRCUMSTANCES
AFTER THE DATE HEREOF OR TO REFLECT THE OCCURRENCE OF UNANTICIPATED EVENTS.

      UNLESS SPECIFICALLY INDICATED OTHERWISE, ALL NUMBERS OF ORDINARY SHARES
AND PER SHARE DATA IN THIS ANNUAL REPORT REFLECT A TWO AND ONE HALF SHARE FOR
ONE SHARE REVERSE STOCK SPLIT OF OUR ORDINARY SHARES EFFECTED ON APRIL 4, 2001.

                                     PART I

ITEM  1. IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS

      Not applicable.

ITEM  2. OFFER STATISTICS AND EXPECTED TIMETABLE

      Not applicable.

ITEM  3. KEY INFORMATION

A.    SELECTED FINANCIAL DATA

      We derived the following consolidated statements of operations data for
the years ended December 31, 2002, 2003 and 2004 and the consolidated balance
sheet data as of December 31, 2003 and 2004 from our audited consolidated
financial statements and notes included in this annual report. We derived the
consolidated statements of operations data for the years ended December 31, 2000
and 2001, and the consolidated balance sheet data as of December 31, 2000, 2001
and 2002 from our audited consolidated financial statements that are not
included in this annual report.


<PAGE>


<TABLE>
<CAPTION>
                                                                           YEAR ENDED DECEMBER 31,
                                                -----------------------------------------------------------------------------
                                                     2000            2001             2002            2003           2004
                                                --------------   -------------     -----------     -----------    -----------
                                                                (U.S. dollars in thousands, except per share data)

<S>                                             <C>              <C>               <C>             <C>            <C>
Revenues......................................  $        3,816   $       8,342     $    10,399     $    12,315    $    14,160

Cost of revenues..............................           5,307           7,416           9,223           9,592         10,287
                                                --------------   -------------     -----------     -----------    -----------
Gross profit (loss)...........................          (1,491)            926           1,176           2,723          3,873
   Research and development expenses..........             730             534             122              --             --
   Marketing, selling, general and
   administrative expenses....................           3,612           3,617           3,809           2,698          2,854
Operating income (loss) from
   continuing                                           (5,833)         (3,225)         (2,035)             25          1,019
   operations.................................
Financial income (expenses), net..............            (861)           (210)           (364)            708           (248)
Other income (expenses), net..................             563             (30)           (290)             (2)            23
Operating income (loss).......................          (6,131)         (3,465)         (2,689)            731            794

Minority interest in losses of subsidiary.....              32              96             206              27             28

Net income (loss)                               $       (6,099)  $      (3,369)    $    (2,483)    $       758    $       822
                                                ==============   =============     ===========     ===========    ===========
Basic net income (loss) per share.............  $        (0.46)  $       (0.24)    $     (0.15)    $      0.04    $      0.04
                                                ==============   =============     ===========     ===========    ===========
Diluted net income (loss) per share...........  $        (0.46)  $       (0.24)    $     (0.15)    $      0.04    $      0.03
                                                ==============   =============     ===========     ===========    ===========
Weighted average number of shares used
   to compute basic net income(loss) per
   share......................................          13,305          13,817          16,555          18,511         19,374
                                                ==============   =============     ===========     ===========    ===========
Weighted average number of shares used
   to compute diluted net income (loss) per
   share......................................          13,305          13,817          16,555          19,704         23,684
                                                ==============   =============     ===========     ===========    ===========
</TABLE>

<TABLE>
<CAPTION>
                                                                             AS OF DECEMBER 31,
                                                -----------------------------------------------------------------------------
                                                     2000            2001             2002             2003           2004
                                                --------------   -------------     -----------      ----------     ----------
                                                                           (U.S. dollars in thousands)
<S>                                             <C>              <C>               <C>              <C>            <C>
BALANCE SHEET DATA:
Working capital (deficiency)..................  $       (8,668)  $      (9,446)    $    (8,055)     $   (2,716)    $    2,265
Total assets..................................          18,874          16,332          14,607          14,549         18,297
Short-term credits and current maturities of
  long-term debt..............................           5,624           5,920           5,697           1,123             14
Long-term debt, net of current maturities.....               8              --              --           1,220             --
Convertible note..............................              --              --              --              --          2,346
Shareholders' equity..........................           4,069             700             485           2,878          7,232
</TABLE>

B.    CAPITALIZATION AND INDEBTEDNESS

      Not applicable.

C.    REASONS FOR THE OFFER AND USE OF PROCEEDS

      Not applicable.

D.    RISK FACTORS

      INVESTING IN OUR ORDINARY SHARES INVOLVES A HIGH DEGREE OF RISK AND
UNCERTAINTY. YOU SHOULD CAREFULLY CONSIDER THE RISKS AND UNCERTAINTIES DESCRIBED
BELOW BEFORE INVESTING IN OUR ORDINARY SHARES. OUR BUSINESS, PROSPECTS,
FINANCIAL CONDITION AND RESULTS OF OPERATIONS COULD BE ADVERSELY AFFECTED DUE TO
ANY OF THE FOLLOWING RISKS. IN THAT CASE, THE VALUE OF OUR ORDINARY SHARES COULD
DECLINE, AND YOU COULD LOSE ALL OR PART OF YOUR INVESTMENT.


                                       2
<PAGE>


      RISKS RELATED TO OUR BUSINESS AND OUR INDUSTRY

      WE HAVE A HISTORY OF LOSSES, AND MAY NOT BE ABLE TO MAINTAIN PROFITABLE
OPERATIONS IN THE FUTURE.

      Although we reported net income of $758,000 and $822,000 for the fiscal
years ended December 31, 2003 and 2004, we incurred losses in the five preceding
years. As of December 31, 2004 our accumulated deficit was $56.9 million. No
assurance can be given that we will be able to maintain our current level of
revenues or profitability in the future.

      WE MAY NEED TO RAISE ADDITIONAL CAPITAL IN THE FUTURE, WHICH MAY NOT BE
AVAILABLE TO US.

      Our working capital requirements and the cash flow provided by our
operating activities are likely to vary greatly from quarter to quarter,
depending on the timing of orders and deliveries, the build-up of inventories,
and the payment terms offered to our customers. As a consequence of our
significant losses, we incurred significant bank debt and sold equity and debt
securities in private placements in the years 1997 through 2004. In June 2003 we
reached an agreement to restructure our debt with Bank Hapoalim B.M. and Bank
Leumi Le-Israel B.M. that significantly improved our financial position. We may
need to raise additional funds for a number of uses, including:

      o     working capital and operating activities;

      o     implementing marketing and sales activities for our products;

      o     maintaining and expanding research and development programs;

      o     hiring additional qualified personnel; and

      o     supporting an increased level of operations.

      We may not be able to obtain additional funds on acceptable terms or at
all. If we cannot raise needed funds on acceptable terms, we may be required to
delay, scale back or eliminate some aspects of our operations and we may not be
able to:

      o     develop new products;

      o     enhance our existing products;

      o     remain current with evolving industry standards;

      o     fulfill our contractual obligations;


                                       3
<PAGE>


      o     take advantage of future opportunities;

      o     respond to competitive pressures or unanticipated requirements; or

      o     retain our listing on the Nasdaq SmallCap Market.

      If adequate funds are not available to us, our business, results of
operations and financial condition will be materially and adversely affected.
Any equity or debt financings, if available at all, may cause dilution to our
then-existing shareholders and may increase our financing expenses. If
additional funds are raised through the issuance of equity securities, the net
tangible book value per share of our ordinary shares would decrease and the
percentage ownership of then current shareholders would be diluted.

      WE MAY NOT BE ABLE TO IMPLEMENT OUR GROWTH STRATEGY.

      In line with our growth strategy, we have entered into teaming agreements
and other co-operation agreements with Smiths Aerospace Electronic Systems, or
Smiths, and Lockheed Martin Aerospace to increase our penetration into the
aviation market. We are currently investing and intend to continue to invest
significant resources to develop these relationships. Should our relationships
fail to materialize into significant agreements or should we fail to work
efficiently with such parties, we may lose sales and marketing opportunities and
our business, results of operations and financial condition could be adversely
affected.

      As part of our growth strategy, we seek to acquire or invest in
complementary, including competitive, businesses, products and technologies. We
acquired the assets of Vectop Ltd. in the first quarter of 2005, and are seeking
additional potential acquisition candidates. We currently have no commitments or
agreements with respect to any future acquisitions or investments and we cannot
assure you that we will eventually be able to consummate any acquisition or
investment. Even if we do acquire or invest in these businesses, products or
technology, the process of integrating acquired assets into our operations may
result in unforeseen operating difficulties and expenditures and may absorb
significant management attention that would otherwise be available for the
ongoing development of our business.

      In addition, we have limited experience in managing acquisitions and
growth. We cannot assure you that the anticipated benefits of any acquisition
will be realized. In addition, future acquisitions by us could result in
potentially dilutive issuances of our equity securities, the incurrence of debt
and contingent liabilities and amortization expenses related to goodwill and
other intangible assets, any of which could materially adversely affect our
operating results and financial position. Acquisitions also involve other risks,
including risks inherent in entering markets in which we have no or limited
prior experience and the potential loss of key employees and the risk that we
may experience difficulty or delays in obtaining necessary permits.

      COMPETITION IN THE MARKET FOR AUTOMATED TEST EQUIPMENT AND AVIONICS
EQUIPMENT IS INTENSE AND WE MAY BE UNABLE TO ACHIEVE PROFITABILITY.


                                       4
<PAGE>


      The market for our products is highly competitive, and we may not be able
to compete effectively in our market. Our principal competitors in the automated
test equipment market are Zaban in Israel, and Aerospatiale Avionique and Avtron
abroad. Our principal competitors in the avionics market are Harris, Rockwell
Collins, Honeywell, Elbit Systems Ltd., IAI, R.S.L. Ltd. TEAK and Elisra Systems
Ltd. We expect to continue to face competition from these and other competitors.
Most, if not all, of our competitors are far larger, have substantially greater
resources including financial, technological, marketing and distribution
capabilities, and enjoy greater market recognition than we have. These
competitors may be able to achieve greater economies of scale and may be less
vulnerable to price competition than us. We may not be able to offer our
products as part of integrated systems to the same extent as our competitors or
successfully develop or introduce new products that are more cost effective or
offer better performance than those of our competitors. Failure to do so could
adversely affect our business, financial condition and results of operations.

      OUR INITIATIVE OF PROVIDING MANUFACTURING SERVICES MAY NOT SUCCEED, AND AS
A RESULT, WE MAY BE UNABLE TO ACHIEVE PROFITABILITY IN OUR BEIT-SHE'AN
PRODUCTION FACILITY AND MAY BE FORCED TO SHUT DOWN ITS OPERATIONS.

      In June 2000, we began to provide manufacturing services to original
equipment manufacturers in Israel and the United States, using the manufacturing
capabilities of our Beit-She'an plant. The market for our manufacturing services
is highly competitive and we may not be able to compete effectively in this
market. The cost of labor and the efficiency of the production equipment and
production processes are crucial to our success in this market. Consequently,
should we fail to maintain low labor costs, enhance our production equipment and
develop new and more efficient production methods, we may have to shut down the
operations of our Beit-She'an plant, which may harm our competitiveness and
could adversely affect our business, results of operations and financial
condition.

      REDUCTION IN MILITARY BUDGETS WORLDWIDE MAY CAUSE A REDUCTION IN OUR
REVENUES, WHICH WOULD ADVERSELY AFFECT OUR BUSINESS, OPERATING RESULTS AND
FINANCIAL CONDITION.

      A significant portion of our revenues is derived from the sale of products
with military applications. These revenues, on a consolidated basis, totaled
approximately $11.8 million, or 83 % of revenues in 2004, $9.6 million, or 78%
of revenues, in 2003 and $6.9 million, or 66% of revenues, in 2002. The military
budgets of a number of countries may be reduced in the future. Declines in
military budgets may result in reduced demand for our products and manufacturing
services. This would result in reduction in our core business' revenues and
adversely affect our business, results of operations and financial condition.

      SALES OF OUR PRODUCTS ARE SUBJECT TO GOVERNMENTAL PROCUREMENT PROCEDURES
AND PRACTICES; TERMINATION, REDUCTION OR MODIFICATION OF CONTRACTS WITH OUR
CUSTOMERS, AND ESPECIALLY WITH THE GOVERNMENT OF ISRAEL, OR A SUBSTANTIAL
DECREASE IN OUR CUSTOMERS' BUDGETS MAY ADVERSELY AFFECT OUR BUSINESS, OPERATING
RESULTS AND FINANCIAL CONDITION.

      Our military aviation products are sold primarily to government agencies
and authorities and government-owned companies, many of which have complex and
time-consuming procurement procedures. A long period of time often elapses from
the time we begin marketing a product until we actually sell that product to a
particular customer. In addition, our sales to government agencies, authorities
and companies are directly affected by these customers' budgetary constraints
and the priority given in their budgets to the procurement of our products.


                                       5
<PAGE>


      Further, our business with the State of Israel and other governmental
entities is, in general, subject to delays in funding and performance of
contracts and the termination of contracts or subcontracts for convenience,
among others. The termination, reduction or modification of our contracts or
subcontracts with the Government of Israel in the event of change in
requirements, policies or budgetary constraints would have an adverse effect on
our business, operating results and financial condition.

      IF WE DO NOT RECEIVE THE GOVERNMENTAL APPROVALS NECESSARY FOR THE EXPORT
OF OUR PRODUCTS, OUR REVENUES MAY DECREASE. SIMILARLY IF OUR SUPPLIERS AND
PARTNERS DO NOT RECEIVE THEIR GOVERNMENT APPROVALS NECESSARY TO EXPORT THEIR
PRODUCTS OR DESIGNS TO US, OUR REVENUES MIGHT DECREASE AND WE MAY FAIL TO
IMPLEMENT OUR GROWTH STRATEGY.

      Under Israeli law, the export of certain of our products and know-how is
subject to approval by the Israeli Ministry of Defense. To initiate sales
proposals with regard to exports of our products and know-how and to export such
products or know-how, we must obtain permits from the Ministry of Defense. We
cannot assure you that we will receive in a timely manner all the required
permits for which we may apply in the future.

      Similarly, under foreign laws the export of certain military products,
technical designs and spare parts require the prior approval of, or export
license from, such foreign governments. In order to maintain our third party
production, certain co-development activities and procurements required for the
performance of certain contracts, we must receive detailed technical designs,
products or products' parts samples from our strategic partners or suppliers. We
cannot assure you that we will be able to receive all the required permits
and/or licenses in a timely manner. Consequently, our revenues may decrease and
we may fail to implement our growth strategy.

      WE DEPEND ON SALES TO KEY CUSTOMERS AND THE LOSS OF ONE OR MORE OF OUR KEY
CUSTOMERS WOULD RESULT IN A LOSS OF A SIGNIFICANT AMOUNT OF OUR REVENUES.

      A significant portion of our revenues is derived from a small number of
customers. Our major customers during the three years ended December 31, 2004
were as follows:

<TABLE>
<CAPTION>
                                        PERCENTAGE OF REVENUES
                                        ------------------------------------
                                        2002          2003          2004
                                        --------      --------      --------
<S>                                        <C>           <C>           <C>
Smiths Electronic Systems............      34%           22%            5%
The Boeing Company...................      19%           14%           10%
Israeli Ministry of Defense..........       3%           11%           19%
Israel Aviation Industries...........       5%           12%            6%
Portuguese Air Force.................       4%           19%           17%
U.S. Navy............................       -             -            11%
</TABLE>

      We anticipate that a significant portion of our future revenues will
continue to be derived from sales to a small number of customers. Further, in
accordance with our growth strategy, we are attempting to expand the number of
our customers while building long-term relationships with them. If our principal
customers do not continue to purchase products from us at current levels or if
such customers are not retained and we are not able to derive sufficient
revenues from sales to new customers to compensate for their loss, our revenues
would be reduced and adversely affect our business, financial condition and
results of operations.


                                       6
<PAGE>


      WE DEPEND ON A LIMITED NUMBER OF SUPPLIERS OF COMPONENTS FOR OUR PRODUCTS
AND IF WE ARE UNABLE TO OBTAIN THESE COMPONENTS WHEN NEEDED, WE WOULD EXPERIENCE
DELAYS IN MANUFACTURING OUR PRODUCTS AND OUR FINANCIAL RESULTS COULD BE
ADVERSELY AFFECTED.

      We acquire most of the components for the manufacturing of our products
from a limited number of suppliers and subcontractors, most of whom are located
in Israel and the United States. Certain of these suppliers are currently the
sole source of one or more components upon which we are dependent. Suppliers of
some of the components for manufacturing require us to place orders with
significant lead-time to assure supply in accordance with our manufacturing
requirements. Inadequacy of operating funds may cause us to delays placement of
such orders and may result in delays in supply. Delays in supply may
significantly hurt our ability to fulfill our contractual obligations and may
significantly hurt our business and result of operations. We cannot assure you
that we will be able to continue to obtain such components from these suppliers
on satisfactory commercial terms. Temporary disruptions of our manufacturing
operations would ensue if we were required to obtain components from alternative
sources, which may have an adverse effect on our financial results.

      WE RELY ON THE AIRLINE INDUSTRY AND THE CONTINUED FINANCIAL CRISES IN THIS
INDUSTRY ADVERSELY AFFECTS OUR SALES.

      The airline industry is an important market for our automated test
equipment products and product support services. Our ability to achieve growth
and profitability in this market depends in great measure on the economic
condition of the commercial aviation industry. Since 2001, and especially
following the tragic events of September 11, 2001, the airline industry has
suffered from economic decline that caused the bankruptcy of several airlines
and imposed financial constraints on the entire industry. As a result of these
conditions, the sales of our automated test equipment products have materially
decreased. The continuance of the crisis in the commercial aviation industry
will adversely affect our business, financial condition and results of
operations.

      RAPID TECHNOLOGICAL CHANGES MAY ADVERSELY AFFECT THE MARKET ACCEPTANCE OF
OUR PRODUCTS.

      The avionics market in which we compete is subject to technological
changes, introduction of new products, change in customer demands and evolving
industry standards. Our future success will depend upon our ability to keep pace
with technological developments and to timely address the increasingly
sophisticated needs of our customers by supporting existing and new technologies
and by developing and introducing enhancements to our current products and new
products. We cannot assure you that we will be successful in developing and
marketing enhancements to our products that will respond to technological
change, evolving industry standards or customer requirements; that we will not
experience difficulties that could delay or prevent the successful development,
introduction and sale of such enhancements; or that such enhancements will
adequately meet the requirements of the market and achieve any significant
degrees of market acceptance. If release dates of our new products or
enhancements are delayed or, if when released, they fail to achieve market
acceptance, our business, operating results and financial condition would be
materially adversely affected.


                                       7
<PAGE>


      WE MAY ENCOUNTER DIFFICULTIES WITH OUR INTERNATIONAL OPERATIONS AND SALES.

      While our principal executive offices are located in Israel, 65% of our
sales in 2004, 74% of our sales in 2003 and 86% of our sales in 2002 were
exports. This subjects us to many risks inherent in international business,
including:

     o    limitations and disruptions resulting from the imposition of
          government controls;

     o    changes in regulatory requirements;

     o    export license requirements;

     o    economic or political instability;

     o    trade restrictions;

     o    changes in tariffs;

     o    currency fluctuations;

     o    longer receivable collection periods and greater difficulty in
          accounts receivable collection;

     o    greater difficulty in safeguarding intellectual property;

     o    difficulties in managing overseas subsidiaries and international
          operations; and

     o    potential adverse tax consequences.

      We cannot assure you that we will be able to sustain or increase revenues
from international operations or that we will not encounter significant
difficulties in connection with the sale of our products in international
markets or that one or more of these factors will not have a material adverse
effect on our future revenues and, as a result, our business, operating results
and financial condition.

      CURRENCY EXCHANGE RATE FLUCTUATIONS IN THE WORLD MARKETS IN WHICH WE
CONDUCT BUSINESS COULD HAVE A MATERIAL ADVERSE EFFECT ON OUR BUSINESS, RESULTS
OF OPERATIONS AND FINANCIAL CONDITION.


                                       8
<PAGE>


      We may be adversely affected by fluctuations in currency exchange rates.
While our revenues are generally denominated in U.S. dollars, a significant
portion of our expenses is incurred in NIS. We do not currently engage in any
currency hedging transactions intended to reduce the effect of fluctuations in
foreign currency exchange rates on our results of operations. If we were to
determine that it was in our best interests to enter into any hedging
transactions in the future, there can be no assurance that we will be able to do
so or that such transactions, if entered into, will materially reduce the effect
of fluctuations in foreign currency exchange rates on our results of operations.
In addition, if for any reason exchange or price controls or other restrictions
on the conversion of foreign currencies into NIS were imposed, our business
could be adversely affected. There can be no assurance such fluctuations in the
future will not have a material adverse effect on revenues from international
sales, and consequently, on our business, operating results and financial
condition.

      WE ARE DEPENDENT ON OUR SENIOR MANAGEMENT AND KEY PERSONNEL, IN PARTICULAR
HERZLE BODINGER, OUR PRESIDENT AND CHAIRMAN OF THE BOARD, WHOSE LOSS COULD
ADVERSELY AFFECT OUR BUSINESS.

      Our future success depends in large part on the continued services of our
senior management and key personnel. In particular, we are dependent on the
services of Herzle Bodinger, our chairman and president. We do not carry key
person life insurance on our senior management or key personnel. Any loss of the
services of Herzle Bodinger, other members of senior management or other key
personnel could negatively and materially affect our business.

      OUR PROPRIETARY TECHNOLOGY IS DIFFICULT TO PROTECT AND UNAUTHORIZED USE OF
OUR PROPRIETARY TECHNOLOGY BY THIRD PARTIES MAY IMPAIR OUR ABILITY TO COMPETE
EFFECTIVELY.

      Our success and ability to compete largely depends upon protecting our
proprietary technology. We rely on a combination of trade secrets, copyright law
and confidentiality, non-disclosure and assignment-of-inventions agreements to
protect our proprietary technology. Except for a patent that relates to our
ACE(TM) system, we do not have any patents.

      OUR PRODUCTS MAY INFRINGE ON THE INTELLECTUAL PROPERTY RIGHTS OF OTHERS.

      Third parties may assert infringement claims against us or claims that we
have violated a patent or infringed on a copyright, trademark or other
proprietary right belonging to them. In addition, any infringement claim, even
one without merit, could result in the expenditure of significant financial and
managerial resources to defend.

      WE MAY NOT BE ABLE TO OBTAIN TITLE TO THE LAND AND BUILDINGS OF OUR
CHINESE SUBSIDIARY AND MAY BE REQUIRED TO INITIATE LITIGATION IN ORDER TO
ENFORCE OUR RIGHTS TO RECEIVE TITLE TO SUCH PROPERTIES.

      Beijing Huarui Aircraft Components Maintenance and Services Co., Ltd. or
CACS, our Chinese subsidiary, conducts its business in an approximately 16,000
square foot facility in Beijing that includes offices and test and repair
facilities. The land for this facility was leased by Beijing Tianzu Forestry
Company or Tianzu, the minority shareholder in CACS, from the Chinese government
for 30 years. Under a joint venture agreement, and in consideration for its
equity investment in CACS, Tianzu granted CACS usage rights in the land,
constructed the buildings and granted CACS the ownership of these buildings.
However, the transfer of the title to the land and the buildings has not been
completed, which may prevent the disposition of these assets should CACS desire
to do so. Although Tianzu is legally obligated to complete such transfer of
title to the land and the buildings, we can not guarantee that such transfer
will be completed, or that we will not be required to initiate litigation in
order to enforce our rights to receive title to the land and buildings.


                                       9
<PAGE>


      COMPLIANCE WITH CHANGING REGULATION OF CORPORATE GOVERNANCE AND PUBLIC
DISCLOSURE MAY RESULT IN ADDITIONAL EXPENSES.

      Changing laws, regulations and standards relating to corporate governance
and public disclosure, including the Sarbanes-Oxley Act of 2002, new Securities
and Exchange Commission regulations and NASDAQ Stock Market rules, are creating
uncertainty for companies such as ours. We are committed to maintaining high
standards of corporate governance and public disclosure. As a result, we intend
to invest reasonably necessary resources to comply with evolving standards, and
this investment may result in increased general and administrative expenses and
a diversion of management time and attention from revenue-generating activities
to compliance activities, which could harm our operating results and business
prospects.

      THE IMPLEMENTATION OF SFAS NO. 123(R), WHICH WILL REQUIRE US TO RECORD
COMPENSATION EXPENSE IN CONNECTION WITH EQUITY SHARE BASED COMPENSATION AS OF
THE THIRD QUARTER OF 2005, WILL REDUCE OUR PROFITABILITY.

      On December 16, 2004, the Financial Accounting Standards Board, or FASB,
issued Statement No. 123 (revised 2004), Share-Based Payment, or SFAS No.
123(R), which is a revision of SFAS No. 123. Generally, the approach in SFAS
123(R) is similar to the approach described in Statement 123. However, SFAS No.
123 permitted, but not required, share-based payments to employees to be
recognized based on their fair values while SFAS No. 123(R) requires, as of the
third quarter of 2005, all share-based payments to employees to be recognized
based on their fair values. SFAS No. 123(R) also revises, clarifies and expands
guidance in several areas, including measuring fair value, classifying an award
as equity or as a liability and attributing compensation cost to reporting
periods. We do not expect the adoption of SFAS No. 123(R) to have a significant
effect on our results of operations in the future. Such adoption could limit our
ability to use stock options as an incentive and retention tool, which could, in
turn, hurt our ability to recruit employees and retain existing employees.

      RISK FACTORS RELATED TO OUR ORDINARY SHARES

      OUR SHARE PRICE HAS BEEN VOLATILE IN THE PAST AND MAY DECLINE IN THE
FUTURE.

      Our ordinary shares have experienced significant market price and volume
fluctuations in the past and may experience significant market price and volume
fluctuations in the future in response to factors such as the following, some of
which are beyond our control:

     o    quarterly variations in our operating results;

     o    operating results that vary from the expectations of securities
          analysts and investors;

     o    changes in expectations as to our future financial performance,
          including financial estimates by securities analysts and investors;


                                       10
<PAGE>


     o    announcements of technological innovations or new products by us or
          our competitors;

     o    announcements by us or our competitors of significant contracts,
          acquisitions, strategic partnerships, joint ventures or capital
          commitments;

     o    changes in the status of our intellectual property rights;

     o    announcements by third parties of significant claims or proceedings
          against us;

     o    additions or departures of key personnel;

     o    future sales of our ordinary shares;

     o    de-listing of our shares from the Nasdaq SmallCap Market; and

     o    stock market price and volume fluctuations.

      Domestic and international stock markets often experience extreme price
and volume fluctuations. Market fluctuations, as well as general political and
economic conditions, such as a recession or interest rate or currency rate
fluctuations or political events or hostilities in or surrounding Israel, could
adversely affect the market price of our ordinary shares.

      In the past, securities class action litigation has often been brought
against companies following periods of volatility in the market price of its
securities. We may in the future be the target of similar litigation. Securities
litigation could result in substantial costs and divert management's attention
and resources both of which could have a material adverse effect on our business
and results of operations.

      SUBSTANTIAL FUTURE SALES OF OUR ORDINARY SHARES MAY DEPRESS OUR SHARE
PRICE.

      If our shareholders sell substantial amounts of our ordinary shares,
including shares issued upon the exercise of outstanding warrants, or
convertible notes, or if the perception exists that our shareholders may sell a
substantial number of our ordinary shares, the market price of our ordinary
shares may fall. Any substantial sales of our shares in the public market also
might make it more difficult for us to sell equity or equity related securities
in the future at a time, in a place and on terms we deem appropriate.

      WE DO NOT INTEND TO PAY DIVIDENDS.

      We have never declared or paid any cash dividends on our ordinary shares.
We currently intend to retain future earnings, if any, to finance operations and
expand our business and, therefore, do not expect to pay any dividends in the
foreseeable future.


                                       11
<PAGE>


      RISKS RELATING TO OUR LOCATION IN ISRAEL

      CONDUCTING BUSINESS IN ISRAEL ENTAILS SPECIAL RISKS.

      We are incorporated under the laws of, and our executive offices,
manufacturing plant and research and development facilities are located in, the
State of Israel. Although most of our sales are made to customers outside
Israel, we are nonetheless directly affected by the political, economic and
military conditions affecting Israel. Specifically, we could be adversely
affected by any major hostilities involving Israel, a full or partial
mobilization of the reserve forces of the Israeli army, the interruption or
curtailment of trade between Israel and its present trading partners, or a
significant downturn in the economic or financial condition of Israel.

      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. Since September 2000, there has been
a marked increase in violence, civil unrest and hostility, including armed
clashes, between the State of Israel and the Palestinians, and acts of terror
have been committed inside Israel and against Israeli targets in the West Bank
and Gaza. There is no indication as to how long the current hostilities will
last or whether there will be any further escalation. Any continuation of, or
further escalation in, these hostilities or any future armed conflict, political
instability or violence in the region may have a negative effect on our business
condition, harm our results of operations and adversely affect our share price.

      Furthermore, there are a number of countries that restrict business with
Israel or Israeli companies. Restrictive laws or policies of those countries
directed towards Israel or Israeli businesses had, and may in the future
continue to have, an adverse impact on our operations, our financial results or
the expansion of our business. No predictions can be made as to whether or when
a final resolution of the area's problems will be achieved or the nature thereof
and to what extent the situation will impact Israel's economic development or
our operations.

      OUR RESULTS OF OPERATIONS MAY BE NEGATIVELY AFFECTED BY THE OBLIGATION OF
OUR PERSONNEL TO PERFORM MILITARY SERVICE.

      Many of our executive officers and employees in Israel are obligated to
perform annual military reserve duty and are subject to being called for active
duty under emergency circumstances. If a military conflict or war arises, these
individuals could be required to serve in the military for extended periods of
time. Our operations could be disrupted by the absence for a significant period
of one or more of our executive officers or key employees or a significant
number of other employees due to military service. Any disruption in our
operations could adversely affect our business.

      THE ECONOMIC CONDITIONS IN ISRAEL HAVE NOT BEEN STABLE IN RECENT YEARS.

      In recent years Israel has been going through a period of recession in
economic activity, resulting in low growth rates and growing unemployment. Our
operations could be adversely affected if the economic conditions in Israel
continue to deteriorate. In addition, due to significant economic measures
proposed by the Israeli Government, there have been several general strikes and
work stoppages in 2003 and 2004, affecting banks, airports and ports. These
strikes have had an adverse effect on the Israeli economy and on business,
including our ability to deliver products to our customers.


                                       12
<PAGE>


      WE MAY BE ADVERSELY AFFECTED IF THE RATE OF INFLATION IN ISRAEL EXCEEDS
THE RATE OF DEVALUATION OF THE NIS AGAINST THE U.S. DOLLAR.

      In 2004 approximately 34% of our expenses were in U.S. dollars or U.S.
dollar-linked NIS, in 2003 approximately 25% of our expenses were in U.S.
dollars or U.S. dollar-linked NIS and in 2002 approximately 39% of our expenses
were in U.S. dollars or U.S. dollar-linked NIS. In each of these years,
virtually all our remaining expenses were in unlinked NIS. Our expenses that are
denominated in U.S. dollars or paid in Israeli currency linked to the U.S.
dollar-NIS exchange rate are influenced by the extent to which any inflation in
Israel is not offset (or is offset on a lagging basis) by the devaluation of the
NIS in relation to the U.S. dollar. In 1998, 2001 and 2002, the rate of
devaluation of the NIS against the dollar exceeded the rate of inflation in
Israel, which benefited us. In 1999 and 2000, the rate of inflation exceeded the
rate of devaluation of the NIS against the U.S. dollar. In 2003, the rate of
inflation was negative and the NIS was revaluated vis-a-vis the dollar. In 2004,
the rate of inflation was 1.2% and the NIS was reevaluated vis-a-vis the dollar.
These changes, as well as the recent world-wide devaluation of the U.S. dollar,
have affected our operations, financial condition and results of operations by
decreasing the NIS equivalents of our U.S. denominated revenues and increasing
the U.S. dollar equivalents of our NIS denominated expenses. We cannot assure
you that we will not be materially adversely affected in the future if the rate
of inflation in Israel exceeds the devaluation of the NIS against the U.S.
dollar or if the timing of this devaluation lags behind increases in inflation
in Israel.

      SERVICE AND ENFORCEMENT OF LEGAL PROCESS ON US AND OUR DIRECTORS AND
OFFICERS MAY BE DIFFICULT TO OBTAIN.

      Service of process upon our directors and officers and the Israeli experts
named herein, all of whom reside outside the United States, may be difficult to
obtain within the United States. Furthermore, since substantially all of our
assets, all of our directors and officers and the Israeli experts named in this
annual report are located outside the United States, any judgment obtained in
the United States against us or these individuals or entities may not be
collectible within the United States.

      There is doubt as to the enforceability of civil liabilities under the
Securities Act and the Securities Exchange Act in original actions instituted in
Israel. However, subject to certain time limitations and other conditions,
Israeli courts may enforce final judgments of United States courts for
liquidated amounts in civil matters, including judgments based upon the civil
liability provisions of those Acts.

      PROVISIONS OF ISRAELI LAW MAY DELAY, PREVENT OR MAKE THE ACQUISITION OF
OUR COMPANY DIFFICULT, WHICH COULD PREVENT A CHANGE OF CONTROL AND THEREFORE
DEPRESS THE PRICE OF OUR SHARES.


                                       13
<PAGE>


      Provisions of Israeli corporate and tax law may have the effect of
delaying, preventing or making more difficult a merger with, or other
acquisition of, us. This could cause our ordinary shares to trade at prices
below the price for which third parties might be willing to pay to gain control
of us. Third parties who are otherwise willing to pay a premium over prevailing
market prices to gain control of us may be unable or unwilling to do so because
of these provisions of Israeli law.

      YOUR RIGHTS AND RESPONSIBILITIES AS A SHAREHOLDER WILL BE GOVERNED BY
ISRAELI LAW AND DIFFER IN SOME RESPECTS FROM THE RIGHTS AND RESPONSIBILITIES OF
SHAREHOLDERS UNDER U.S. LAW.

      We are incorporated under Israeli law. The rights and responsibilities of
holders of our ordinary shares are governed by our memorandum of association,
our articles of association and by Israeli law. These rights and
responsibilities differ in some respects from the rights and responsibilities of
shareholders in typical U.S. corporations. In particular, a shareholder of an
Israeli company has a duty to act in good faith toward the company and other
shareholders and to refrain from abusing his power in the company, including,
among other things, in voting at the general meeting of shareholders on certain
matters. Israeli law provides that these duties are applicable in shareholder
votes on, among other things, amendments to a company's articles of association,
increases in a company's authorized share capital, mergers and interested party
transactions requiring shareholder approval. In addition, a shareholder who
knows that it possesses the power to determine the outcome of a shareholder vote
or to appoint or prevent the appointment of a director or executive officer in
the company has a duty of fairness toward the company. However, Israeli law does
not define the substance of this duty of fairness. Because Israeli corporate law
has undergone extensive revision in recent years, there is little case law
available to assist in understanding the implications of these provisions that
govern shareholder behavior.

ITEM 4.  INFORMATION ON THE COMPANY

A.    HISTORY AND DEVELOPMENT OF THE COMPANY

      RADA Electronic Industries Ltd. was incorporated under the laws of the
State of Israel on December 8, 1970 for an indefinite term. We are a public
limited liability company under the Israeli Companies Law 1999-5759, or the
Israeli Companies Law, and operate under this law and associated legislation.
Our registered offices and principal place of business are located at 7 Giborei
Israel Street, Netanya 42504, Israel, and our telephone number is
972-9-892-1111. Our address on the internet is www.rada.com. The information on
our website is not incorporated by reference into this annual report.

      We develop, manufacture and sell automated test equipment, avionics
products and ground debriefing systems and provide manufacturing services for
military and commercial use, mainly in Israel, the U.S. and Europe. We refer to
these activities as our core business. We also provide test and repair services
using our CATS(R) testers and test program sets through our Chinese subsidiary.

      In April 1985, we completed an initial public offering. We traded on the
Nasdaq National Market under the symbol "RADIF" since our initial public
offering in 1985 until June 10, 2002 when the listing of our ordinary shares was
transferred to the Nasdaq SmallCap Market. On December 13, 2004, we changed our
symbol to "RADI."


                                       14
<PAGE>


      In February 2005, we purchased all the assets of Vectop Ltd., an Israeli
company specializing in the design, development, marketing and sale of
electro-optic equipment and debriefing systems. Such assets included the
know-how, intellectual property and patents that were used by, or connected to
Vectop's business.

B.    BUSINESS OVERVIEW

OUR CORE BUSINESS

      We provide integrated avionic solutions. Our aim is to provide not only a
state of the art product but also a comprehensive end to end solution for one or
more avionic systems. The first integrated system that we provided was for the
A-4 avionics upgrade program of the Israeli Air Force, or IAF. This program is
the first comprehensive and complete avionics system to be provided entirely by
us. During 2004 we increased our involvement and development efforts in the area
of unmanned aircraft vehicles.

      Our solutions include the following:

     o    Advanced training solutions, based on our recently completed Net
          Centric Digital Recorder;

     o    Integrated trainer aircraft avionics packages;

     o    Flight data recorders and supporting ground analysis;

     o    Integrated weapons management systems;

     o    Video cameras for ground and airborne applications, based on the
          Vectop's Ltd. products;

     o    Inertial and global positioning system based on navigation solutions;

     o    Unmanned aerial vehicle avionics; and

     o    Automatic testing solutions;

      We also provide manufacturing services to original equipment manufacturers
in Israel and in the United States, using the manufacturing capabilities of our
Beit-She'an plant. We offer production of turnkey solutions, in "build to print"
or "build to specification" modes. To date, we have provided our manufacturing
services to, among others, Smiths, Israeli Aircraft Industries, or IAI, and
RAFAEL Armament Development Authority Ltd., or RAFAEL. Our China based
subsidiary provides test and repair services using our CATS(R) testers and test
program sets.


                                       15
<PAGE>


      Our core business activity is based in Israel. Our U.S.-based subsidiaries
have been inactive since January 1, 2002.

ADVANCED TRAINING SOLUTIONS

GENERAL

      Our training solutions are based on a complete and integrated system that
incorporates an airborne component installed in the aircraft and a ground-based
component, installed in the squadron facilities. Recent technological
developments, undertaken primarily for the IAF, enable system adaptation to any
kind of aircraft, regardless of its onboard avionics systems. Our recent
solutions are based on our newly developed Net Centric Digital Recorder, that
allows the integration of our airborne digital video recordings with numerous
other digital data items and provides the essential building blocks for a
squadron information management network, or SIMNET, as a ground component.

AUTONOMOUS AIR COMBAT EVALUATION SYSTEM - ACE(TM)

      ACE(TM) is an avionics system used for debriefing air combat missions and
is based on data recordings from digital and analog communication channels in
the aircraft. The system converts the data into digital form and inserts it on
unused portions of the recording tape in the existing aircraft analog
videocassette recorder, or VCR. The data is extracted from the videocassette and
utilized by our ground debriefing station to generate 3-D graphic displays that
portray all the aircraft maneuvers during operational and training missions, and
fully synchronize between all the participating aircrafts. For each individual
aircraft, the graphic display is fully synchronized with the heads-up display
image captured on the VCR media. The IAF (F-16 A/B, A-4) and three other air
forces (F-5, F-16 A/B) currently utilize the ACE(TM) system.

      Debriefing of air combat maneuvers can also be implemented as an expansion
application to our FACE(TM) system. The Royal Netherlands Air Force has upgraded
its FACE(TM) system s with this capability to debrief its aircrews.

      The latest enhancement of the ACE(TM) concept resulted in a contract with
the Israeli Ministry of Defense and the IAF in the first quarter of 2003. Under
the contract we will upgrade all of the existing IAF A-4 aircraft with our
advanced ACE(TM) debriefing capabilities. The absence of advanced avionics
systems and associated data onboard the A-4 aircraft required us to integrate a
stand-alone Internal Navigation System, or INS, and a Global Positioning System,
or GPS, on board the aircraft. We believe this enhanced solution will open the
market segment of aircraft fleets not equipped with modern avionics platforms
for the ACE(TM). We believe that this program uniquely positions us as the
ultimate provider for debriefing solutions for all the advanced IAF trainers.


                                       16
<PAGE>


SQUADRON INFORMATION MANAGEMENT NETWORK (SIMNET)

      Since 1999 we have offered operational ground debriefing stations
complementing our airborne systems. The operational ground debriefing station is
a PC-based application operating in a Windows NT/2000(R) environment, supported
by a proprietary plug-in board. The solution, designed by our employees (IAF
F-16 and F-15 pilots in reserve service), provides a state-of-the-art debriefing
environment, fully capitalizing on all available digital and video information
in a highly synchronized presentation. Further capitalizing on current day
technology, individual stations have a networking capability, providing data
sharing, as well as cross-unit and inter-air force debriefing.

      The IAF and two other air forces have purchased ground debriefing systems
for their F-16 A/B, F-5 and A-4 fleets.

NET CENTRIC DIGITAL RECORDER (NCDR) BASED TRAINING SYSTEMS

      Recent developments in digital video recording systems and the significant
reduction in size and cost of solid state memory hardware have turned solid
state digital video recording systems into the de-facto standard solution for
airborne applications. These systems have begun penetrating the aviation
industry, in new aircraft such as the F-16I as well as in the retrofit market.
Identifying this trend, we have ported our debriefing solutions to the digital
domain, with the initial system developed for the new IAF F-16Is, delivered
under the Peace Marble, or PM-V, Program and the new Net Centric Digital
Recorder. We developed our Net Centric Digital Recorder with the view of
capturing sales from the potential retrofit market for airborne video tape
recorders. This new solution focuses on the throughput, data management and
archiving requirements of the massive amounts of information generated by each
aircraft, as well as on seamless data sharing within the squadron and the air
force as a whole.

      Based on the PM-V Program, we delivered two additional debriefing systems
to Lockheed Martin Aerospace during the fourth quarter of 2002 for use in
integration and flight-testing. We are in the midst of the development,
integration and delivery of a complete digital debriefing system for the new
F-16s purchased by the Chilean Air Force. As an extension of the development
work completed as part of the PM-V Program, we are supplying the Chilean Air
Force with a digital video recorder for each F-16 aircraft as well as an
advanced digital video ground debriefing station. This station will be linked to
the F-5 ground debriefing station we previously delivered to the Chilean Air
Force, creating a common network debriefing solution for both front-line
aircraft.

      We have identified a growing need for digital video replacement of aging
analogue airborne tape recorders (approximately 15,000 VTRs are installed
onboard fighter aircraft today) and have initiated a world wide marketing effort
to promote the replacement of these aging VTRs with our new NCDR. The NCDR,
together with our ground debriefing system, enables advanced debriefing at an
affordable price. During 2004, we completed the development of the NCDR and it
is now being proposed to several customers. The NCDR will be marketed jointly by
us and Smiths, utilizing Smiths' better access to some of the world markets,
especially in the U.S.

INTEGRATED TRAINER AIRCRAFT AVIONICS PACKAGE

      Following our selection by the IAF to provide the ACE(TM) for their
advanced trainer, the A-4 Skyhawk, we were awarded a follow on program aimed at
total replacement of the aging avionics package of the A-4 aircraft with a new,
upgraded package. The new avionics package replaces the current weapon delivery
and navigation system of the aircraft with a new state of the art system that
will significantly improve the A-4 capabilities, increase its' reliability and
provide it with advanced training capabilities.


                                       17
<PAGE>


      The upgraded system includes INS, GPS, head up display, or HUD, camera,
central weapon delivery and navigation processor based on enhanced flight
monitoring unit, which is the core of the ACE(TM) system and a control and
display unit.

      The upgraded A-4 prototype began its planned flight testing phase on
schedule and the serial production line is operating at full capacity. We plan
to complete the upgrade of all the IAF A-4 fleet during 2005.

      We believe that this program places us among the few companies that
performed a complete aircraft avionics system upgrade. As a result of the A-4
system development, we have proposed similar, very cost effective, trainer
aircraft avionics packages to other customers. The A-4 avionics package
provides, at a very affordable price, a complete and modern avionics suite
tailored for trainer aircraft. We have already launched marketing efforts to
promote this package for different customers.

FLIGHT DATA RECORDERS AND SUPPORTING GROUND ANALYSIS

GENERAL

      Our fleet maintenance management solutions are based on our existing
programs and products developed and supplied over the course of the past two
years. These programs include airborne data collection and recording equipment
(such as FACE(TM) or DAS) as well as ground support software packages (such as
PERFORMS) that provide the infrastructure for efficient data logging and
analysis to support fleet maintenance management.

FATIGUE ANALYSIS AND AUTONOMOUS AIR COMBAT EVALUATION SYSTEM - FACE(TM)

      The FACE(TM) system is an avionics system designed to acquire, process and
record data from various aircraft systems as well as from strain gauges
(sensors) affixed to an aircraft structure. This data is used to streamline and
manage the ongoing monitoring and maintenance of an aircraft and its systems.
The FACE(TM) system communicates with a squadron's ground support logistic
station, enabling downloading of data from an aircraft, analyzing the data,
managing ongoing maintenance, creating and modifying the set-up configuration
files and determining data for recording, as well as providing an interface to
other applications.

      The FACE(TM) system is capable of communicating in real time with a voice
and data recorder, which is a crash survival unit known as a "black box"
manufactured by Smiths, for the purpose of recording flight safety related data.
We are currently upgrading the FACE(TM) systems supplied to the Royal
Netherlands Air Force for its F-16 aircraft between the years 1996 and 1999 with
this capability. During 2004 we supplied FACE(TM) systems for the F-16 fleets of
the Portuguese Air Force and the U.S. Navy, and we plan to supply FACE(TM)
systems to the Jordanian Air Force for its F-16 fleet starting in 2005.


                                       18
<PAGE>


DATA ACQUISITION SYSTEM - DAS

      The DAS is an advanced avionics data acquisition system designed to
acquire, process and record data from various aircraft systems. We jointly
developed and marketed the DAS with Smiths for the new IAF F-16I aircraft. DAS
consists of two sub-systems, a data acquisition unit, or DAU, and an enhanced
crash survival memory unit, or ECSMU. The DAU interfaces to numerous data
systems and data channels in the aircraft and acquires, processes and records
data, mostly for maintenance purposes. The ECSMU is a "black box" capable of
recording digital data and digitized audio transferred through the DAU. DAS is a
form fit replacement for the CSFDR system, which is currently installed on most
F-16 aircraft worldwide. DAS has been offered as a substitute in various
projects that require a flight data recorder with advanced capabilities and
growth potential.

      The DAS is designed to meet all commercial aviation requirements for
"black box" recorders, thus expanding its market potential. During 2004, we
started supplying production DAS units to the IAF and entered into contracts to
supply DAS units to the Polish Air Force and the Korean Air Force starting in
2005.

PERFORMS (PROCESSING, EVALUATING, AND REPORTING OF FORCE MANAGEMENT DATA
SOFTWARE)

      Starting in mid-2001 we have been the primary sub-contractor to Lockheed
Martin Aerospace in the development of a new aircraft data logging and analysis
software package. The new product, known as PERFORMS, is designed to replace the
aging and hard to support data processing station, or DPS, that was developed to
provide data logging and fatigue analysis for all F-16 aircraft users. PERFORMS
is a Windows 2000(R) based software package, utilizing a state of the art
graphics user interface, and provides all the required infrastructure to perform
any type of analysis on data acquired by all F-16 airborne flight data
recorders.

      The analysis includes fatigue monitoring, engine usage monitoring and
other applications that may be added, as required by different users. The
recorded data is downloaded to the station and stored in a commercial off the
shelf database with an interface for "plug-in" applications, allowing those
applications to access the data, manipulate and analyze it and provide a variety
of maintenance management tools. The program is managed by Lockheed Martin
Aerospace and is supplied to F-16 users in evolving software "builds" delivered
every 12 months starting in April 2003. Under the agreement, we were granted a
non-exclusive license to use the developed software in support of our FACE(TM)
and DAS products to supply the application to our flight data recorder
customers.

      The first PERFORMS delivery in June 2003, exposed us to F-16 users at a
higher level than we had ever previously experienced. This exposure led us to
initiate business development activities with regard to PERFORMS add-on
packages. Since 2004, we present this activity to the F-16 user's community in
seminars and conferences.

      Updated and upgraded PERFORMS software packages were delivered during 2004
and are scheduled for delivery in 2005. Various air force customers already use
the software, and we expect to receive requests to support the installation and
operation of the software from these users.


                                       19
<PAGE>


INTEGRATED WEAPONS MANAGEMENT SYSTEMS

      In the early 1980s we started to develop, manufacture and sell an armament
interface unit which controls the various weapon stations of an aircraft based
on commands from the main on-board computer. The unit interfaces between the
digital commands of the main controller and the analog weapons stations,
performing a unique hybrid task. The armament interface unit was designed for
IAI's worldwide upgrade programs. Later versions of the system are designed for
installation in attack helicopters as well as in fighter aircraft. We are
currently in the process of supplying a derivative of the system to IAI for a
F-5 upgrade program in Spain and are proposing the system and its offshoots for
multiple other applications in Israel and abroad. One of the major potential
sales channels for the armament interface unit is IAI, through its upgrade
programs and other ongoing projects.

      We also provide complete armament testing solutions for aircraft using a
variety of weapons management systems. The test unit verifies the serviceability
of the armament management system during periodic maintenance or prior to
installation of sophisticated weapons.

VIDEO CAMERAS FOR AIRBORNE AND GROUND VEHICLES

      The recent acquisition of the Vectop Ltd.'s assets in February 2005
provides us with a new product line. Airborne cameras are integral part of any
training and debriefing system airborne onboard military platforms. Our
customers include major Israeli integrators (such as IAF, IAI and Elbit) as well
as foreign customers. In 2005, our products in this line include:

      EYE WITNES

      An airborne HUD camera, sold to many customers in different configurations
represents a significant part of the future revenues related to the assets
purchased from Vectop Ltd.

      NIGHT WITNESS

      A night vision camera installed on any night vision goggles to enable the
recording of the pilot's view through the night vision goggles, is a unique
capability that has been integrated in several fighter aircraft and helicopter
programs.

      ARMOR SENTRY

      A video camera developed for ground armored vehicles and tanks. This
system is being delivered to the Israeli ground forces for installation in the
new "Merkava" battle tank and is generating interest in foreign markets.

      SNIPER WITNESS

      The Sniper Witness enables sniper training facilities to better analyze
the activities of the trainees as well as accurately debrief the operation
resulting in better training. The system is based on a miniature video camera
attached to the sniper sight and portable video recorder. The system is used by
the Israeli armed forces training facility and is currently being demonstrated
to other forces around the world.


                                       20
<PAGE>


INERTIAL AND GPS BASED NAVIGATION SOLUTIONS

      During 2003, we developed low cost navigation systems based on a ring
laser gyro, or RLG, and GPS. Our RLG based system is now qualified and
operational as part of the IAF A-4 upgrade program. This development provided us
with the know-how to further develop navigation solutions based on other
sensors.

      During 2005, we plan to integrate two different sensors into our
navigation system, which is based on attitude sensors and fiber optic gyros.
Navigation systems based on these sensors are significantly more cost effective
and provide good performance at a -low price.

      We are offering our customers the existing RLG Navigation System, or RNS,
as part of our avionics packages and as a stand alone system and we plan to
propose the new navigation systems by the end of 2005.

UNMANNED AERIAL VEHICLES (UAV) AVIONICS

      We identified the UAV avionics market as a fast growing area that will
gradually replace the manned military airborne avionics market. This market has
many common aspects with the manned avionics product lines; however, it requires
slightly different technology and understanding of the various requirements.

      Typically, a UAV avionics package needs to be smaller, lighter, more
reliable and inexpensive than its comparable manned aircraft suite. The major
advantage of UAV avionics systems is the envisioned large number of UAVs.

      We initiated efforts to penetrate this market during 2001. Since then we
have entered into a contract with IAI, to develop and provide them with an Input
Output Controller, or IOC, a unit that is part of our data acquisition systems
product line, for IAI's next generation UAV. We are continuing our efforts to
widen our participation in this important program as well as in other programs.

      During 2004, we developed and delivered a miniature avionics module to
IAI. This unit is aimed at the miniature UAV market and provides complete
avionics capabilities in a single, miniaturized unit. This product can be
proposed to other customers and we have initiated marketing activities for that
purpose.

AUTOMATIC TESTING SOLUTIONS

GENERAL

      Our business expansion into the automatic test equipment, or ATE, market
is based on our existing products as well as the added value we deliver with the
dedicated expertise and the wide-range experience we have acquired in this area.
We rely on the preference indicated by OEMs to outsource the acquisition of ATE
and have positioned our company as a strategic supplier/partner to provide ATEs
and test solutions. We offer our ATEs with our own Advanced Test Environment,
including all the required development tools. After a long period of inactivity
in this market, we see some growing interest, especially from small maintenance
houses rather than airlines, especially in the U.S.


                                       21
<PAGE>


CATS(R) - COMMERCIAL AVIATION TEST STATIONS

      The Commercial Aviation Test Stations, or CATS(R), is a family of
multi-purpose, computerized automatic test equipment that meets the specific
needs of airlines and third party maintenance companies. The CATS(R) stations
test and repair a variety of electronic units in existing commercial aircraft,
incorporating tools for testing, troubleshooting, and performing diagnostic
procedures. CATS(R) replaces or augments test stations from aircraft
manufacturers or avionics OEM suppliers, while automating multiple manual test
procedures.

MANUFACTURING SERVICES

      In 2000 we began providing manufacturing services to OEMs located in
Israel and the United States, using the excess manufacturing capacity at our
Beit-She'an plant. We offer manufacturing turnkey solutions, either in "build to
print" or "build to specification" modes. To date, we have provided our
manufacturing services to Smiths, IAI, RAFAEL, and other Israeli companies, both
in the defense and commercial sectors.

TEST AND REPAIR STATIONS

      We operate a test and repair shop based on the use of our CATS(R) tester
in Beijing, China through CACS, our 80% owned Chinese subsidiary. CACS was
established as a joint venture company with Tianzu Forest Development Company,
which owns the remaining 20% equity interest. Pursuant to the joint venture
agreement, Tianzu Forest Development provided the facilities for CACS'
operations while we provided CATS(R) testers and test program set services.

SALES AND MARKETING

STRATEGY

      Our sales and marketing strategy is based on the following principles:

     o    Maintaining our business focus on avionics for the military market and
          our family of testing solutions for the commercial and military
          markets.

     o    Expanding our product line by adding new products and applications to
          our existing products by using our current development programs as the
          basis for new developments.

     o    Expanding our customer base by including our products in solutions and
          integrated systems. This approach was successful both in Chile where,
          in 2002, we were awarded a contract to provide a complete debriefing
          solution for the F-16 aircraft purchased by the Chilean Air Force, and
          with the IAF, to whom we supply complete weapon delivery and
          navigation system for the A-4 aircraft.


                                       22
<PAGE>


     o    Establishing marketing channels with system integrators and major
          aircraft manufacturers such as The Boeing Company, Lockheed Martin
          Aerospace, Smiths, IAI and RAFAEL.

     o    Expanding large potential markets, especially in the military and the
          unmanned combat air vehicle areas, and developing new marketing
          channels aimed directly at these customers.

      As part of this strategy, we have entered into a number of strategic
relationships and have focused our marketing and sales efforts to support these
relationships.

      LOCKHEED MARTIN AEROSPACE. Our sales of avionics products focus mainly on
the F-16 aircraft manufactured by Lockheed Martin Aerospace, the most popular
fighter aircraft in the Western world today. In February 1999, we signed a
memorandum of understanding with Lockheed Martin pursuant to which we will
provide certain avionics systems for the F-16 aircraft under the PM-V Program.
In September 1999, the U.S. and the State of Israel signed a letter of
acceptance pursuant to which the U.S. will provide the IAF with 50 F-16I
aircraft and an option for an additional 52 aircraft, which was exercised in
June 2001 for a total of 102 F-16I aircraft. In cooperation with Smiths, we are
developing and supplying the data acquisition system that includes the advanced
data acquisition unit and an enhanced crash survivable memory unit, which will
be manufactured in our Beit-She'an facility. We are currently negotiating with
Lockheed Martin with respect to the development of additional capabilities of
this system for different applications.

      In addition, in March 2001 we signed an agreement with the Aircraft
Structural Integrity Program Group of Lockheed Martin pursuant to which we are
assisting in the development of a fatigue analysis system based on a PC computer
for analyzing structural fatigue of the F-16 aircraft. As the main
subcontractor, our principal task is to develop the software for the fatigue
analysis system. The fatigue analysis system will utilize data collected from
the data acquisition unit and our FACE(TM) system, as well as other systems used
by air forces operating F-16 aircraft. This five year development program will
end in March 2006.

      SMITHS AEROSPACE ELECTRONIC SYSTEMS. In February 1999, we entered into an
agreement with Smiths that outlines joint marketing activities for our FACE(TM)
system and Smiths' voice and data recorder for F-16 A/B aircraft. Smiths is a
worldwide leader in avionics systems for fighter and commercial aircraft. The
two systems successfully passed flight tests conducted on the Royal Netherlands
Air Force's F-16 aircraft by Lockheed Martin and the Royal Netherlands Air
Force. The FACE(TM) system and the voice and data recorder complement each other
and are intended to replace outdated data recording systems, mechanical strain
recorders and flight load recorders. No sales under this agreement have been
made to date.


                                       23
<PAGE>


      In June 2000, we signed a memorandum of understanding with Smiths pursuant
to which the parties agreed to establish a team for worldwide marketing,
developing and manufacturing of the data acquisition system and its associated
ground support that is intended to grow into an infrastructure for recording,
processing and managing all data types available on board the aircraft. No sales
of the systems have been made to date under this agreement. We cannot assure you
that we will successfully negotiate a definitive agreement with a customer nor
can we provide at present any forecast that the agreement with Smiths will
result in future sales of avionics systems.

      In October 2003, we signed a teaming agreement with Smiths. The teaming
agreement establishes cooperation in connection with the products developed
jointly by Smiths and us for the PM-V Program and its derivatives. In addition,
the agreement details commitments made by Smiths to purchase production services
from us in the coming years.

      During 2004, we expanded our cooperation with Smiths to include our newly
developed Net Centric Digital Recorder and have jointly offered this product to
potential customers.

      Smiths was a principal customer in 2002 and 2003 and we expect that it
will be one of our principal customers in 2005. In addition to the PM-V
cooperation with Smiths, we are currently supplying the Royal Netherlands Air
Force with an integration package for our FACE(TM) System and Smiths' black box
for its F-16 MLU fleet. A similar package is also being supplied to the
Portuguese Air Force.

      ISRAEL AIRCRAFT INDUSTRIES. IAI was our fourth largest customer in 2004,
accounting for approximately 8% of our total annual revenues. We are actively
supplying avionics and test equipment to four different divisions of IAI. We
have identified the Israeli government-owned aerospace industries as a potential
customers and cooperation entities. In particular the Lahav and Malat divisions
of IAI, major aircraft integrators, require our services as avionics and test
equipment providers. During 2004, in the IAF avionics upgrade program, where we
are the prime contractor, we have cooperated with IAI, as our sub-contractor, to
support various parts of this program.

      RAFAEL ARMAMENT DEVELOPMENT AUTHORITY LTD. RAFAEL was one of our largest
Israeli customers in 2004. Our sales to RAFAEL during 2004 were primarily for
test equipment and build to print services. The addition of the Solid State
Recording, or SSR, family of products to the products we supply to RAFAEL adds
our own developed products to these sales. We expect that the SSR will result in
significant sales to RAFAEL.

MARKETING

      Our chairman and president, Herzle Bodinger, our chief executive officer,
Adar Azancot, and our vice president business development, Zvi Alon, lead our
marketing efforts. We currently employ four other persons in marketing our core
business products and plan to employ an additional person. Our engineering
department supports our marketing staff with respect to product pricing and
technical demonstrations. In addition, we have sales consultants, agents and
representatives in Europe, South America, China and India who receive
commissions for sales effected through them.

      The Israeli Ministry of Defense has historically supported and continues
to support our marketing efforts through its Export and Defense Assistance
division, or SIBAT, through various projects for the Israeli Defense Forces and
its related divisions. The Israeli Ministry of Industry and Commerce supports
our marketing efforts via its Industrial Cooperation Authority through the
exploitation of "offset commitments" by Lockheed Martin Aerospace and The Boeing
Company to the State of Israel. Such future assistance is not guaranteed.


                                       24
<PAGE>


PRINCIPAL CUSTOMERS

      Generally, we complete a few transactions each year, each in an amount
comprising approximately 10% of our revenues for such year. As a result, each
year a significant portion of our revenues is derived from a small number of
customers. The following table sets forth our principal customers for the years
2003 and 2004:

<TABLE>
<CAPTION>
                                                        2003           2004
                                                        ---------      --------
<S>                                                       <C>           <C>
      Smiths Electronic Systems................           22%            5%
      The Boeing Company.......................           14%           10%
      Israeli Ministry of Defense..............           11%           19%
      Israel Aviation Industries...............           12%            6%
      Portuguese Air Force.....................           19%           17%
      U.S. Navy................................            -            11%
</TABLE>

      Although we are striving to increase the number of our customers, we
anticipate that a significant portion of our future revenues will continue to be
derived from sales to a small number of customers.

      Like many companies deriving a substantial portion of their revenues from
government contracts, we are subject to business risks, including changes in
governmental appropriations and changes in national defense policies and
priorities. Although many of the programs in which we participate as a
contractor or subcontractor may extend for several years, our business is
dependent upon annual appropriations and funding of new and existing contracts.
Most of the contracts are subject to termination for the convenience of the
customer, pursuant to which the customer pays only for reimbursement of costs
incurred and the applicable profit on work performed. We cannot assure you that
the Israeli Government or any other government will continue to fund the
purchase of our products over the long term.

MARKETS

      We sell our products to various air forces and companies. Our main market
is in Israel with 35% of our sales in 2004, 26% in 2003 and 14% in 2002. The
second largest market is the U.S. with 33% of our sales in 2004, 42% in 2003 and
64% in 2002. Western Europe is our third largest market with 21% of our sales in
2004, 28% in 2003 and 15% in 2002. Sales to the rest of the world accounted for
10%, 4% and 7% of our sales in 2004, 2003 and 2002, respectively.


                                       25
<PAGE>


COMPETITION

      The markets for our products are highly competitive, and we may not be
able to compete effectively in those markets. Our principal competitors in the
avionics market are Harris, Rockwell Collins, Honeywell, Elbit Systems Ltd.,
IAI, R.S.L. Ltd., TEAK and Elisra Systems Ltd. We expect to continue to face
competition from these and other competitors. Most of our competitors are
larger, have greater resources including financial, technological, marketing and
distribution capabilities, and enjoy greater market recognition than we do.
These competitors may be able to achieve greater economies of scale and may be
less vulnerable to price competition than us. We may not be able to offer our
products as part of integrated systems to the same extent as our competitors or
successfully develop or introduce new products that are more cost effective or
offer better performance than those of our competitors. Failure to do so could
adversely affect our business, financial condition and results of operations.

EXPORT POLICY

      Exports of military related products are subject to the military export
policy of the State of Israel. Current Israeli Government policy encourages
export to approved customers of military products similar to those manufactured
by us, provided that such export does not run counter to Israeli policy or
national security considerations. We must obtain a permit to initiate a sales
proposal and ultimately an export license for the transaction is required. We
cannot assure you that we will obtain export permits or licenses in the future
or that governmental policy with respect to military exports will not be
altered. However, to date we have not encountered any significant difficulties
in obtaining necessary permits or licenses for sale of our products.

FIXED PRICE CONTRACTS

      Most of our contracts, especially with the Government of Israel, its
agencies and other foreign governments, are generally fixed-price contracts.
Under fixed-price contracts, the price is not subject to adjustment by reason of
the costs incurred in the performance of the contracts, as long as the costs
incurred and work performed fall within governmental guidelines. Under our
fixed-price contracts, we assume the risk that increased or unexpected costs may
reduce our profits or generate a loss. This risk can be particularly significant
under a fixed-price contract for research and development involving a new
technology.

      Our books and records may be subject to audits by the Israeli Ministry of
Defense and other governmental agencies including the U.S. Department of
Defense. These audits may result in adjustments to contract costs and profits.
To date, we have not incurred any liability as a result of such audits.

PROPRIETARY INFORMATION

      We were granted a patent for our ACE(TM) system in both Israel and the
United States (No. 5467274.) Nevertheless, we generally do not consider patent
protection significant to our current operations and rely upon a combination of
security devices, copyrights, trademarks, trade secret laws and contractual
restrictions to protect our rights in our products. Our policy is to require
employees and consultants to execute confidentiality agreements upon the
commencement of their relationships with us. These measures may not be adequate
to protect our technology from third-party infringement, and our competitors
might independently develop technologies that are substantially equivalent or
superior to ours. Additionally, our products may be sold in foreign countries
that provide less protection for intellectual property rights than that provided
under U.S. or Israeli laws.


                                       26
<PAGE>


      The Israeli Government usually retains certain rights to technologies and
inventions resulting from our performance as a prime contractor or subcontractor
under Israeli Government contracts and may generally disclose such information
to third parties, including other defense contractors. When the Israeli
Government funds research and development, it may acquire rights to proprietary
data and title to inventions; we may retain a non-exclusive, royalty-free
license for such inventions. However, if the Israeli Government purchases only
the end product, we may retain the principal rights and the Government may use
the data and take an irrevocable, non-exclusive, royalty-free license.

MANUFACTURING AND SUPPLY

      Our main production facilities are located in Beit-She'an, Israel. The
plant is equipped to handle most of our manufacturing processes and testing
requirements. For several specific processes we utilize subcontractors. This
approach is a key to our flexibility and versatility.

      We stress quality control in our product realization process. Commencing
with customer requirements and expectations via raw material inspection through
completion, specifications are repeatedly checked. We maintain a quality
assurance team that participates in every stage of the design and manufacture of
our products. Our quality management standards are certified by the Standards
Institute of Israel, or SII, pursuant to ISO 9001 for hardware design and
production and ISO 9000.3 for software, both since 1995. SII performs quality
system audits twice a year and various customers perform audits four to six
times a year. In April 2001, SII certified our Environmental Management System
pursuant to ISO 14001. Our Quality Management System was revised to comply with
ISO 9001:2000. This process was concluded in June 2003.

      According to the standard warranty incorporated in most of our sales
contracts, we warrant that our products will be free from defects in design,
materials or workmanship, and guarantee repair or replacement of defective parts
for the twelve months following delivery of a product to the customer. We also
provide maintenance services to customers who sign maintenance contracts.

SOURCE AND AVAILABILITY OF RAW MATERIALS

      We acquire most of the components for the manufacturing of our products
from a limited number of suppliers and subcontractors, most of whom are located
in Israel and the United States. Certain of these suppliers are currently the
sole source of one or more components upon which we are dependent. Since many of
our purchases require long lead-times, a delay in supply of an item can
significantly delay the delivery of a product. To date, we have not experienced
any particular difficulty in obtaining timely deliveries of necessary
components. See Item 3D "Risk Factors." We depend on a limited number of
suppliers of components for our products and if we are unable to obtain these
components when needed, we would experience delays in manufacturing our products
and our financial results could be adversely affected.

C.    ORGANIZATIONAL STRUCTURE

      We had one active subsidiary in 2004, Beijing Huarui Aircraft Components
Maintenance and Services Co., an 80% owned subsidiary based in China that is
engaged in aircraft repair services.


                                       27
<PAGE>


D.    PROPERTY, PLANTS AND EQUIPMENT

FACILITIES

      We own a 30,000 square feet building in Beit-She'an, Israel. The building,
which includes manufacturing facilities, warehouse space and a portion of our
development facilities, is situated on land leased from the Israel Land
Authority for a period of 49 years until 2034. The plant has sufficient capacity
to meet our current requirements. If volume was to increase significantly, we
would be able to increase the number of workers or shifts at the plant, or use
more subcontractors.

      Our executive offices and research and development facilities are located
in a 12,500 square foot office facility in Netanya, Israel. The lease for this
facility expires in January 2006 and we have an option to extend the lease until
January 2008.

      Our Chinese subsidiary, CACS, conducts its business in an approximately
16,000 square foot facility in Beijing that includes offices and test and repair
facilities. The land for this facility was leased by Beijing Tianzu Forestry
Company or Tianzu, the minority shareholder in CACS, from the Chinese government
for 30 years. Under a joint venture agreement, and in consideration for its
equity investment in CACS, Tianzu granted CACS usage rights in the land,
constructed the buildings and granted CACS the ownership of these buildings.
However, the transfer of the title to the land and the buildings has not been
completed, which may prevent the disposition of these assets should CACS desire
to do so. Although Tianzu is legally obligated to complete such transfer of
title to the land and the buildings, we can not guarantee that such transfer
will be completed, or that we will not be required to initiate litigation in
order to enforce our rights to receive title to the land and buildings.

      The aggregate annual rent for our offices in Israel and China was
approximately $152,000 in 2004.

ITEM 5.  OPERATING AND FINANCIAL REVIEW AND PROSPECTS

A.    OPERATING RESULTS

      THE FOLLOWING DISCUSSION AND ANALYSIS SHOULD BE READ IN CONJUNCTION WITH
OUR CONSOLIDATED AUDITED FINANCIAL STATEMENTS AND THE NOTES THERETO, INCLUDED
ELSEWHERE IN THIS ANNUAL REPORT.

OVERVIEW

      We develop, manufacture and sell automated test equipment and avionics
products for military and commercial use mainly in Israel, Europe and the United
States. We also provide test and repair services using our CATS(R) testers and
test program sets through our Chinese subsidiary, CACS. In addition, we provide
manufacturing services to third parties engaged mainly in the avionics market.


                                       28
<PAGE>


CRITICAL ACCOUNTING POLICIES

      Our critical accounting policies, including the assumptions and judgments
underlying them, are disclosed in the notes to our consolidated financial
statements. These policies have been consistently applied in all material
respects and address such matters as revenue recognition. While the estimates
and judgments associated with the application of these policies may be affected
by different assumptions or conditions, we believe the estimates and judgments
associated with the reported amounts are appropriate in the circumstances.

      The significant accounting policies listed in Note 2 of our consolidated
financial statements that we believe are the most critical to aid in fully
understanding and evaluating our financial condition and results of our
operations under generally accepted accounting principles are discussed below.

      INTANGIBLE ASSETS. Costs of producing our TPS software library, which is
integrated with our test station, incurred subsequent to achieving technological
feasibility, were capitalized, and are amortized by the greater of the amount
computed using the: (i) ratio that current gross revenues from sales of the
software to the total of current and anticipated future gross revenues from
sales of that software, or (ii) the straight-line method over the estimated
useful life of the product. We assess the recoverability of these intangible
assets at each balance sheet date by determining whether the amortization of the
asset over its remaining life can be recovered through undiscounted future
operating cash flows from the specific software products sold. The use of
different assumptions with respect to the expected cash flows from our assets
and other economic variables may lead to different conclusions regarding the
recoverability of our assets' carrying values and to the potential need to
record an impairment loss for our intangible assets. As of December 31, 2004, no
impairment was required.

      IMPAIRMENT OF LONG-LIVED ASSETS. We are required to assess the impairment
of long-lived assets whenever events or changes in circumstances indicate that
the carrying value may not be recoverable. We assess the impairment of our
assets based on a number of factors, including any significant changes in the
manner of our use of the respective assets or the strategy of our overall
business and significant negative industry or economic trends. Upon
determination that the carrying value of a long-lived asset may not be
recoverable, based upon a comparison of expected future cash flows (undiscounted
and without interest charges) to the carrying amount of the asset, an impairment
charge is recorded. Under different assumptions with respect to the
recoverability of our long-lived assets, our determination may be different,
which may negatively affect our financial position and results of operations. As
of December 31, 2004, no impairment was required.

      SHARE-BASED COMPENSATION. We account for stock-based compensation using
the intrinsic value model. Accordingly, we measure compensation cost as the
excess, if any, of the closing market price of our stock at the date of grant
over the exercise price of the option granted. We recognize compensation cost
for stock options, if any, ratably over the vesting period. We disclose pro
forma data assuming we had accounted for employee stock option grants using the
fair value-based method. We account for options and warrants issued to
non-employees. We use the Black-Scholes option pricing model to value warrants
granted to non-employees. This policy will change effective with our reporting
period beginning July 1, 2005.


                                       29
<PAGE>


      REVENUE RECOGNITION. Our revenues are derived from sales of automated test
equipment and avionics products and from long-term fixed price contracts for
ATE, avionics and ground debriefing systems. In addition, we lease ATE and
provide manufacturing, development and product support services. Product revenue
is recognized when there is persuasive evidence of an arrangement, the fee is
fixed or determinable, delivery of the product to the customer has occurred and
the collection of the fee is probable. If the product requires specific customer
acceptance, revenue is deferred until customer acceptance occurs or the
acceptance provisions lapse.

      Revenues from long-term fixed price contracts are recognized by the
percentage-of-completion method in accordance with the "Input Method." We apply
this method when the total of the costs and revenues of the contract can
reasonably be estimated. The percentage of completion is determined based on the
ratio of actual costs incurred to total costs estimated to be incurred over the
duration of the contract. With regard to contracts for which a loss is
anticipated, a provision is made for the entire amount of the estimated loss at
the time such loss becomes evident. Estimated gross profit or loss from
long-term contracts may change due to changes in estimates resulting from
differences between actual performance and original forecasts. Such changes in
estimated gross profit or loss are recorded in results of operations when they
are reasonably determined by management on a cumulative catch-up basis.

      Revenues from services are recognized when the service is performed.

      Revenue under operating leases of equipment are recognized ratably over
the lease period.

      Revenues from certain arrangements may include multiple elements within a
single contract. Our accounting policy separates multiple deliverables into
individual accounting units with determinable fair values. Our arrangements are
accounted for as one unit of accounting.

      LOANS TO EMPLOYEES AND PROVISION FOR LITIGATION. We have an outstanding
balance of loans due to us from our former chief executive officer and a former
officer. Both officers claim that they are not obliged to repay the loans. There
are pending legal actions between us and each of the former officers concerning,
among other things, the repayment of the loans. According to our legal
consultants, we have a strong case with regard to our claims for repayment of
the outstanding loans. We recorded a provision for the loans receivable in the
amount that we believe is sufficient to reflect the recoverability of the asset,
based on management's estimation. In addition, we have several additional legal
proceedings outstanding. We have recorded provisions for litigation for claims
that were estimable and for which there is a high probability that we will be
held responsible based on our legal consultants' opinions and management's
estimations.

      FAIR VALUE OF WARRANTS. In July 2004, we consummated a private placement,
whereby we issued 1,800,000 shares, an aggregate of $3 million principal amount
of convertible notes and warrants (including additional investment rights) to
purchase an aggregate of 2,037,500 ordinary shares to investors for a total
consideration of $5.7 million, net of issuance expenses. The consideration was
allocated based on the respective fair values of the ordinary shares, notes and
warrants. The fair value of the warrants and the additional investment rights
was based on a valuation prepared by an independent, valuation expert using the
Black-Scholes pricing model.


                                       30
<PAGE>


SIGNIFICANT EXPENSES

      COST OF REVENUES. Cost of revenues consists primarily of manufacturing
costs, depreciation of fixed assets, software development costs, impairment
losses on long-lived assets and amortization of capitalized software.

      MARKETING, SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Marketing and
selling expenses consist primarily of expenses for sales and marketing
personnel, sales commissions, marketing activities, public relations,
promotional materials, travel expenses and trade show exhibit expenses. General
and administrative expenses consist primarily of salaries and related expenses
for executive, accounting, administrative personnel, professional fees,
provisions for doubtful accounts, and other general corporate expenses.

      FINANCIAL INCOME (EXPENSES), NET. Financial expenses consist of interest
and bank expenses, interest on convertible note, amortization of beneficial
conversion feature on convertible note and currency remeasurement losses.
Financial income consists of interest on cash and cash equivalent balances,
currency remeasurement gains and gain on restructuring of debt.

YEAR ENDED DECEMBER 31, 2004 COMPARED WITH YEAR ENDED DECEMBER 31, 2003

      REVENUES. Our revenues increased 15% to $14.1 million in 2004 from $12.3
million in 2003. The increase in our revenues is primarily attributable to the
increase of revenues from sales of our Ground Debriefing System, or GDS, to
Smith, and sale of FACE(TM) systems to the Portuguese Air Force and the U.S.
Navy. We expect that this growth rate will continue in 2005 and that such growth
will be generated primarily from sales to our traditional products and from the
new products acquired in the purchase of the assets of Vectop Ltd.

      COST OF REVENUES. Cost of revenues increased 7% to $10.3 million in 2004
from $9.6 million in 2003 mainly due to increased revenues. In 2005 we expect
that our cost of revenues will increase consistent with the expected increase in
revenues.

      GROSS PROFIT. Our gross profit increased 44% to approximately $ 3.9
million in 2004 from $2.7 million in 2003. Our profit margin increased to 27% in
2004 from 22% in 2003. The increase in gross profit and profit margin are due to
the increase of sales volume and the larger mix of off the shelf products like
the FACE(TM).

      RESEARCH AND DEVELOPMENT EXPENSES. In 2003 and 2004 we did not incur any
research and development expenses. We made a strategic decision not to engage in
internal research and development activities but, rather, entered into
development projects through customers' orders. In 2005, we expect that we will
continue to enter into new development projects and develop products through
customer orders and will not initiate internally funded research.


                                       31
<PAGE>


      MARKETING, SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Marketing,
selling, general and administrative expenses increased 7% to $2.9 million in
2004 from $2.7 million in 2003. While we are continuing our cost savings
measures, we have increased our sales efforts in our existing and new markets,
which has resulted in increased marketing and selling expenses. We expect that
our total marketing, selling, general and administrative expenses will decrease
slightly in 2005.

      FINANCIAL INCOME (EXPENSES), NET. Our financial expenses, net, were
$248,000 in 2004 and our financial income, net was $708,000 in 2003. Our
financial expenses in 2004 were attributable primarily to the interest payable
on the $3 million of convertible notes issued in 2004 while the financial income
in 2003 was primarily attributable to an approximate $1 million gain on our
restructuring of debt with our banks.

YEAR ENDED DECEMBER 31, 2003 COMPARED WITH YEAR ENDED DECEMBER 31, 2002

      REVENUES. Our revenues increased 18% to $12.3 million in 2003 from $10.4
million in 2002. The increase in our revenues is primarily attributable to the
increase of revenues from the sale of GDS and DAS to Smiths for the PM-V Program
and sale of FACE(TM) systems to the Portuguese Air Force.

      COST OF REVENUES. Cost of revenues increased 4% to $9.6 million in 2003
from $9.2 million in 2002 mainly due to increased revenues and impairment losses
recognized on some of our long-lived assets.

      GROSS PROFIT. Our gross profit increased 132% to approximately $2.7
million in 2003 from $1.2 million in 2002. Our profit margin increased to 22% in
2003 from 11% in 2002. The improved margins reflects our reaching a sales level
that provides for better utilization of our fixed overhead costs.

      RESEARCH AND DEVELOPMENT EXPENSES. In 2003 we did not incur any research
and development expenses as compared to 2002 when we expended $122,000 for
research and development. We made a strategic decision not to engage in internal
research and development activities but, rather, enter into development projects
through customers' orders.

      MARKETING, SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Marketing,
selling, general and administrative expenses decreased 13% to $2.7 million in
2003 from $3.1 million in 2002 mainly due to cost saving measures taken by us to
reduce our overhead.

      FINANCIAL INCOME (EXPENSES), NET. Our financial income, net was $708,000
in 2003 and our financial expenses, net was $364,000 in 2002. Our financial
income in 2003 was primarily attributable to an approximate $1 million gain on
our restructuring of debt with our banks.

CONDITIONS IN ISRAEL

      We are incorporated under the laws of, and our principal executive offices
and manufacturing and research and development facilities are located in, the
State of Israel. Accordingly, we are directly affected by political, economic
and military conditions in Israel. Specifically, we could be adversely affected
by any major hostilities involving Israel, a full or partial mobilization of the
reserve forces of the Israeli army, the interruption or curtailment of trade
between Israel and its present trading partners, and a significant downturn in
the economic or financial condition of Israel.


                                       32
<PAGE>


      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. In 1979 Israel signed a peace
agreement with Egypt under which full diplomatic relations were established. In
October 1994 a peace treaty was signed between Israel and Jordan which provides,
among other things, for the commencement of full diplomatic relations between
the two countries. To date, there are no peace treaties between Israel and Syria
or Lebanon.

      Since 1993, several agreements have been signed between Israel and the
Palestinian representatives concerning conditions in the West Bank and Gaza and
outlining several interim Palestinian self-government arrangements. The
implementation of these agreements have been subject to difficulties and delays.

      Since September 2000, relations between Israel and the Palestinian
Authority have deteriorated and there has been a marked increase in violence,
civil unrest and hostility, including armed clashes, between the State of Israel
and the Palestinians, and acts of terror have been committed inside Israel and
against Israeli targets in the West Bank and Gaza. Recently, the Israeli
government has resolved to unilaterally evacuate all the Jewish settlements in
Gaza Strip, and few settlements in the West Bank. In addition, following the
death of Yasser Arafat the Palestinian Authority has established new regime who
declared it will take active actions against terrorism and caused the
Palestinian terror organizations to commit to halt execution of acts of terror
in Israel. Such commitment has not been observed. There is no indication as to
how long the current hostilities will last or whether there will be any further
escalation. Any further escalation in these hostilities or any future armed
conflict, political instability or violence in the region may have a negative
effect on our business condition, harm our results of operations and adversely
affect our share price.

      Furthermore, there are a number of countries that restrict business with
Israel or Israeli companies. Restrictive laws or policies of those countries
directed towards Israel or Israeli businesses may have an adverse impact on our
operations, our financial results or the expansion of our business.

      In addition, some of our executive officers and employees in Israel are
obligated to perform up to 36 days, depending on rank and position, of military
reserve duty annually and are subject to being called for active duty under
emergency circumstances. If a military conflict or war arises, these individuals
could be required to serve in the military for extended periods of time. Our
operations could be disrupted by the absence for a significant period of one or
more of our executive officers or key employees or a significant number of other
employees due to military service. Any disruption in our operations could
adversely affect our business.

      To date, no executive officer or key employee has been recruited for
military service for any significant time period. Any further deterioration of
the hostilities between Israel and the Palestinian Authority into a full-scale
conflict might require more significant military reserve service by some of our
employees, which may have a material adverse effect on our business.


                                       33
<PAGE>


ECONOMIC CONDITIONS

      In recent years Israel has been going through a period of recession in
economic activity, resulting in low growth rates and growing unemployment. Our
operations could be adversely affected if the economic conditions in Israel
continue to deteriorate. In addition, due to significant economic measures
proposed by the Israeli Government, there have been several general strikes and
work stoppages in 2003 and 2004, affecting all banks, airports and ports. These
strikes have had an adverse effect on the Israeli economy and on business,
including our ability to deliver products to our customers.

      The domestic security situation in Israel and the global slowdown in
demand for high-tech imports continued to be the main factors affecting economic
activity in Israel in 2002 and 2003. Nevertheless, in the second half of 2003,
the business sector's activity showed signs of recovery, based on the rise in
export and private consumption. Toward the end of 2003, budgetary restraints
were exercised as a result of the economic program. The economic program placed
large emphasis on reducing the national budget deficit and on measures expected
to lead to its permanent reduction, and therefore increased the credibility of
the Israeli fiscal policy.

      During 2004, the expansion of the economic activity and growth that the
Israeli economy experienced since the second half of 2003, continued and
unemployment decreased slightly. During this period inflation reached a rate of
1.2%, and the level expected by the Bank of Israel for the next 12 months is
between 1% and 3%. Interest rates have remained level throughout the year at
approximately 4.1%.

      The Israeli government's monetary policy contributed to relative price and
exchange rate stability in recent years, despite fluctuating rates of economic
growth and a high rate of unemployment. There can be no assurance that the
Israeli government will be successful in its attempts to keep prices and
exchange rates stable.

TRADE RELATIONS

      Israel is a member of the United Nations, the International Monetary Fund,
the International Bank for Reconstruction and Development and the International
Finance Corporation. Israel is a member of the World Trade Organization and is a
signatory to the General Agreement on Tariffs and Trade. In addition, Israel has
been granted preferences under the Generalized System of Preferences from the
United States, Australia, Canada and Japan. These preferences allow Israel to
export the products covered by such programs either duty-free or at reduced
tariffs.

      Israel and the EEC, known now as the "European Union," concluded a Free
Trade Agreement in July 1975 that confers some advantages with respect to
Israeli exports to most European countries and obligates Israel to lower its
tariffs with respect to imports from these countries over a number of years. In
1985, Israel and the United States entered into an agreement to establish a Free
Trade Area. The Free Trade Area has eliminated all tariff and some non-tariff
barriers on most trade between the two countries. On January 1, 1993, an
agreement between Israel and the European Free Trade Association, known as the
"EFTA," established a free-trade zone between Israel and the EFTA nations. In
November 1995, Israel entered into a new agreement with the European Union,
which includes a redefinition of rules of origin and other improvements, such as
allowing Israel to become a member of the Research and Technology programs of
the European Union. In recent years, Israel has established commercial and trade
relations with a number of other nations, including Russia, China, India, Turkey
and other nations in Eastern Europe and Asia.


                                       34
<PAGE>


      Israel receives significant amounts as economic assistance from the United
States. In the last several years Israel has received from the U.S.
approximately $3 billion per year. We cannot assure you that U.S. economic
assistance will continue, or that the amounts received will not be reduced. If
U.S. economic assistance is eliminated or reduced significantly, the Israeli
economy could suffer material adverse consequences which may have material
adverse impact on our financial condition and results of operations.

CORPORATE TAX RATE

      Under the Israeli Income Tax Ordinance [New Version], 1980 we are subject
to corporate tax at the rate of 35% of taxable income for 2004, 34% for 2005,
32% for 2006 and 30% for 2007 onwards.

      As of December 31, 2004, our net operating loss carry-forwards for Israeli
tax purposes were approximately $44.4 million.

IMPACT OF CURRENCY FLUCTUATION AND OF INFLATION

      For many years prior to 1986, the Israeli economy was characterized by
high rates of inflation and devaluation of the Israeli currency against the
dollar and other currencies. However, since the institution of the Israeli
Economic Program in 1985, inflation, while continuing, has been significantly
reduced and the rate of devaluation has substantially diminished. Because
governmental policies in Israel linked exchange rates to a weighted basket of
foreign currencies of Israel's major trading partners, the exchange rate between
the NIS and the dollar remained relatively stable during reported periods.

      The following table sets forth, for the periods indicated, information
with respect to the rate of inflation in Israel, the rate of devaluation of the
NIS against the U.S. dollar, and the rate of inflation in Israel adjusted for
such devaluation:

<TABLE>
<CAPTION>
                                                             ISRAELI INFLATION
YEAR ENDED      ISRAELI INFLATION     ISRAELI DEVALUATION      ADJUSTED FOR
DECEMBER 31,          RATE %                RATE %             DEVALUATION %
------------    -----------------     -------------------    -----------------
<S>                   <C>                    <C>                   <C>
   2000                0                     (2.7)                  2.8
   2001                1.4                    9.3                  (7.8)
   2002                6.8                    7.3                   0.7
   2003               (1.9)                  (7.6)                 (6.1)
   2004                1.2                   (1.6)]                (2.8)
</TABLE>

      Since most of our sales are quoted in dollars and in other foreign
currencies, and a significant portion of our expenses are incurred in NIS, our
results are adversely affected by a change in the rate of inflation in Israel
when such change is not offset (or is offset on a lagging basis) by a
corresponding devaluation of the NIS against the dollar and other foreign
currencies. We do not use any hedging instruments in order to protect ourselves
from currency fluctuation and of inflation risks.


                                       35
<PAGE>


B.    LIQUIDITY AND CAPITAL RESOURCES

      We have historically met our financial requirements primarily through cash
generated by operations, funds generated by our public offering in 1985, private
placements of our ordinary shares and issuance of debt securities, loans from
our principal shareholders, short-term loans and credit facilities from Bank
Hapoalim B.M. and Bank Leumi Le-Israel B.M., our Banks, research and development
grants from the Government of Israel and the Israel-U.S. Binational Industrial
Research and Development Foundation, and investment grants for approved
enterprise programs and marketing grants from the Government of Israel.

      As a result of continuing losses during the period 1999 through 2002 that
amounted to $58.5 million, we were forced to incur significant debt and issue
equity securities. During the four years ended December 31, 2003, we relied
predominantly on Howard Yeung and our other principal shareholders, and to a
lesser extent on new investors to provide us with working capital. During this
period, they provided us with $13.1 million in equity capital, convertible debt
and loans. In July 2004 we raised $5.88 million from institutional and
accredited investors.

      On April 23, 2002, we entered into a loan agreement with Mr. Yeung,
according to which he provided us with a $550,000 loan facility. The purpose of
the facility was to provide us with short term working capital and in 2002 we
utilized $350,000 of the facility.

      At an extraordinary meeting of shareholders held on June 9, 2002, our
shareholders approved the terms of a purchase agreement between us and certain
investors, pursuant to which such investors purchased 1,938,775 of our ordinary
shares at a price of $0.49 per share, which was equal to 70% of the average
closing price of the ordinary shares for the ten (10) trading days prior to June
9, 2002. In addition, pursuant to the approval of our shareholders, we issued to
such investors warrants to purchase 4,302,041 of our ordinary shares. Such
warrants have a term of five years and are exercisable during the first 36
months after issuance at an exercise price of $2.00 per share, and during the
subsequent 24 month period, at an exercise price which will be equal to the
higher of: (i) $2.00 per share or (ii) 50% of the average closing price during
the ten (10) trading days prior to an exercise date. The warrants contain
certain anti-dilution provisions that could reduce the exercise price of the
warrants in the event that we issue securities at a price below the exercise
prices of the warrants our shareholders also approved the conversion of the
$1,350,000 of loans granted by Mr. Yeung, into 2,755,102 of our ordinary shares
at a price of $0.49 per share, which was equal to 70% of the average closing
price of our ordinary shares for the ten trading days prior to the date of
shareholder approval. As part of the transaction, we issued to Mr. Yeung on June
30, 2002 warrants to purchase 8,265,306 ordinary shares. Such warrants will be
outstanding for five years and will be exercisable during the first 36 months at
an exercise price of $2.00 per share, and during the subsequent 24 month period,
at an exercise price which shall be equal to the higher of: (i) $2.00 per share
or (ii) 50% of the average closing price of our ordinary shares during the ten
(10) trading days prior to the exercise date.

      Under the terms of the purchase agreements, we also agreed to provide the
investors and Mr. Yeung with certain registration rights.


                                       36
<PAGE>


      On June 22, 2003, we signed a memorandum of agreement with our Banks,
which agreement was approved by our shareholders at an extraordinary general
meeting of shareholders that was held on July 22, 2003. Pursuant to an agreement
that was finalized on September 24, 2003, we restructured $3,451,000 of our
outstanding debt to the Banks. We repaid $1,100,000 on account of our debt to
the Banks, and the Banks forgave $1,100,000 of debt and received warrants to
purchase 3,781,995 of our ordinary shares, at an exercise price that is equal to
the nominal (par) value of our shares, in lieu of $1,251,000 of our debt. These
warrants expire on March 24, 2006 and may not be exercised for a period of 21
months unless transferred pursuant to the call or put options described below.
The Banks also granted us an additional short-term line of credit of $500,000 to
finance our cash flow requirements during 2003. As part of the agreement our
controlling shareholder, Mr. Howard P. L. Yeung, agreed to grant the Banks a put
option allowing the Banks to require him to purchase the above warrants for the
consideration of $1,251,000, exercisable within a period of 45 days commencing
on March 24, 2005 and the Banks granted Mr. Yeung a call option allowing him to
require the Banks, during a period of 18 months, commencing as of September 24,
2003, and in the event that the Banks will not exercise their put option, during
additional 90 days period commencing as of May 9, 2005, to sell him such
warrants at a price that is not lower than $1,251,000 and not higher then
$1,770,165, depending on the average closing price of our ordinary shares during
the last 90 business days prior to such exercise. We also agreed to grant the
Banks warrants to purchase an additional 1,100,000 ordinary shares at an
exercise price of $2.00 per share, exercisable for 5 years, commencing as of
September 24, 2003.

      As of December 31, 2004, we were not indebted to our Banks under any
short-term loans, long-term loans or credit facilities, but they have provided
$4,123,000 of guarantees on behalf of our customers and suppliers in the
ordinary course of business. The guarantees are secured by a first priority
floating charge on all our assets and by a fixed charge on goodwill (intangible
assets), unpaid share capital and insurance rights (rights to proceeds on
insured assets in the event of damage). Our agreements with the Banks prohibit
us from selling or otherwise transferring any assets except in the ordinary
course of business, from placing a lien on our assets without the Banks' consent
and from declaring dividends to our shareholders. In addition, The Israeli Tax
Authority has a first priority fixed charge on our fixed assets in the
Beit-She'an facility. This charge will be released when the litigation between
us and our former chief executive officer is resolved.

      On July 12, 2004 we entered into a stock purchase agreement with certain
institutional and accredited investors, pursuant to which such investors
purchased 1.8 million of our ordinary shares at a price of $1.60 per share,
together with additional investment rights to purchase up to an aggregate of an
additional 1.1 million ordinary shares at an exercise price of $2.10 per share,
for a period of 24 months from August 11, 2004. In addition, we issued an
aggregate of $3.0 million principal amount of convertible notes. The convertible
notes will mature on July 12, 2007, bear interest at a rate of six month LIBOR
plus 2.5% and are convertible at the investors' option at a conversion price of
$2.10. The investors also received warrants exercisable for a period of five
years beginning on January 12, 2005 to purchase up to an aggregate of 937,500
ordinary shares at an exercise price of $2.50 per share.

      We had capital expenditures of $317,000 in 2004 and $49,000 in 2003. We
currently do not have any significant capital spending or purchase commitments.
The increase in capital expenditures in 2004 was primarily attributable to the
purchase of computers, development software and peripheral equipment.


                                       37
<PAGE>


      Net cash generated from operating activities was $997,000 in 2004. This
was attributable primarily to our net income of $822,000, depreciation and
amortization of $1,066,000 and a decrease in trade receivables of $1,853,000,
offset by a net decrease in costs and estimated earnings in excess of billings
of $1,980,000, a $951,000 decrease in inventories, and a $574,0000 decrease in
deferred revenues. Net cash generated from operating activities was $1,021,000
in 2003. This was attributable primarily to our net income of $758,000,
depreciation and amortization of $2,072,000, a net increase in costs and
estimated earnings in excess of billings of $1,085,000 and a $722,000 increase
in other payables and and accrued expenses, offset by a gain of $1,013,00 on the
extinguishment of debt, a $1,664,000 increase in trade receivables and a
$709,000 decrease in deferred revenues. .

      Net cash used in investing activities was approximately $1,374,000 in 2004
and $50,000 in 2003. In 2004 we used $1,032,000 as an investment in long-term
restricted cash (restricted to secure bank guarantees issued to certain of our
costumers) and $349,000 for the purchase of property and equipment.

      Net cash provided by financing activities was $3,374,000 in 2004. This
amount was principally provided by the private placement of July 2004 and was
offset in part by the repayment of $ 2,329,000 of short-term bank credits and
loans with the proceeds of the private placement. Net cash used in financing
activities was $1,074,000 in 2003, due to the repayment of short term bank
credit.

      As a result of the foregoing, at December 31, 2004, we had a working
capital of $2.3 million and cash and cash equivalents of $3,464,000 as compared
to a working capital deficiency of $2.7 million and cash and cash equivalents of
$467,000 at December 31, 2003.

      We expect to fund our short-term liquidity needs, including our
obligations under our credit facilities, other contractual agreements and any
other working capital requirements, from our cash and cash equivalents,
operating cash flow and our credit facilities. We believe that our current cash
and cash equivalents, credit facilities and our expected cash flow from
operations in 2005 will be sufficient to meet our cash requirements in 2005.
However, we cannot assure that that such funds will be sufficient to finance our
operations and that, in such event, our shareholders, other investors or the
Banks will continue to provide us with funds when requested. The failure of our
principal shareholders, other new investors or the banks, to provide us with the
necessary financing may result in a significant scale back or elimination of
some aspects of our operations.

      As of March, 31, 2005 there were 19,486,840 warrants outstanding to
purchase our ordinary shares. Of such warrants, 3,781,995 warrants have an
exercise price of par value per share, 13,667,345 warrants have an exercise
price of $2.00 per share, 1,100,000 warrants have an exercise of $2.10 per share
and 937,500 warrants have an exercise of $2.50 per share. To the extent any
warrants are exercised the proceeds will be added to our working capital.


                                       38
<PAGE>


C.    RESEARCH AND DEVELOPMENT, PATENTS AND LICENSES

RESEARCH AND DEVELOPMENT

      Our research and development investments focus on improvements to our
existing products and the development of complementary products that would
provide continued support for our current customers and would improve our
capability to market our products to new customers.

      In the years ended December 31, 2002, 2003 and 2004, our research and
development costs were $122,000, $0 and $0 respectively. In 2003, we made a
strategic decision not to engage in internal research and development
activities, but rather to develop products through customer orders. For example,
in 2002 we engaged in the development of our GDS product and co-development of
DAS, both as sub-contractors for Smiths in connection with the PM-V Program. We
intend to continue this approach for the foreseeable future.

      As of December 31, 2004, we employed 48 engineers in research and
development, which spend most of their time on research and development
activities generated through customer orders and an immaterial part of their
time on internal research and development activities.

      The Office of the Chief Scientist of the Israeli Ministry of Industry and
Trade encourages research and development by providing grants to Israeli
companies. The terms of such grants prohibit manufacture of the developed
products outside Israel and the transfer of technologies developed using the
grants to any person without the prior written consent of the Chief Scientist.
We have not received any grants from the Office of the Chief Scientist since
1996.

      Pursuant to applicable Israeli law, we are currently required to pay
royalties at the rate of 3-5% of sales of products developed with certain grants
received from the Chief Scientist, up to 100% of the amount of such grants,
linked to the U.S. dollar. As of December 31, 2004, our total obligation for
royalties payments, net of royalties paid or accrued is approximately $641,000.

      We are committed to pay royalties to the Israel - United States Binational
Industrial Research and Development Foundation at the rate of 2.5% up to 150% of
the research and development expenses financed by the foundation. Our total
obligation for royalties, net of royalties paid or accrued, totaled
approximately $2.5 million as of December 31, 2004.

D.    TREND INFORMATION

      Based on our strategic plan, we have succeeded in reducing our losses and
returning to profitable operations in the years ended December 31, 2003 and
2004. We cannot provide any assurances that we will be successful in meeting our
targets in the future. As a result of the unpredictable business environment in
which we operate, we are unable to provide any specific guidance as to sales and
profitability trends.

      Our future revenues will, in great measure, be dependent upon the success
of our sales and marketing strategy. We are currently focusing our sales efforts
on:


                                       39
<PAGE>


     o    testing solutions;

     o    ground debriefing stations and avionics products for the F-16 aircraft
          of Lockheed Martin Aerospace;

     o    fighter and trainer up-grades based on our A-4 up-grade for the IAF;
          and

     o    manufacturing services.

      If we are unsuccessful in our sales efforts, it is unlikely that we will
be able to achieve profitability in the future and we will require additional
capital.

E.    OFF-BALANCE SHEET ARRANGEMENTS

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

F.    TABULAR DISCLOSURE OF CONTRACTUAL OBLIGATIONS

      The following table summarizes our minimum contractual obligations and
commercial commitments, as of December 31, 2004 and the effect we expect them to
have on our liquidity and cash flow in future periods.

<TABLE>
<CAPTION>
        CONTRACTUAL OBLIGATIONS                                    PAYMENTS DUE BY PERIOD
--------------------------------------     ----------------------------------------------------------------
                                                                                                     More
                                                             Less than                    3-5       than 5
                                               Total          1 year        1-3 Years     Years      years
                                            ----------      -----------    ----------     -----      -----
<S>                                         <C>              <C>           <C>             <C>         <C>
Long-term debt obligations .............    $2,346,000              -      $2,346,000       -          -
Operating lease obligations.............    $1,009,000       $468,000      $  541,000       -          -
Purchase obligations....................             -              -               -       -          -
Total...................................    $3,355,000       $468,000      $2,887,000       -          -
</TABLE>

      In addition, we have long-term liabilities for severance pay that is
calculated pursuant to Israeli severance pay law generally based on the most
recent salary of the employees multiplied by the number of years of employment,
as of the balance sheet date. Employees are entitled to one month's salary for
each year of employment or a portion thereof. As of December 31, 2004 our
severance pay liability was $2,063,000.

      We have attempted to identify additional significant uncertainties and
other factors affecting forward-looking statements in the Risk Factors section
that appears in Item 3 - "Key Information."


                                       40
<PAGE>


ITEM 6.  DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES

A.    DIRECTORS AND SENIOR MANAGEMENT

      Our articles of association provide for a board of directors consisting of
no less than two and no more than eleven members or such other number as may be
determined from time to time at a general meeting of shareholders. Our board of
directors is currently composed of seven directors.

      Our executive officers are responsible for our day-to-day management. The
executive officers have individual responsibilities established by our chief
executive officer and by the board of directors. Executive officers are
appointed by and serve at the discretion of the board of directors, subject to
any applicable employment agreements.

      Set forth below are the name, age, principal position and biographical
description of each of our directors and executive officers:

<TABLE>
<CAPTION>
NAME                                    AGE    POSITION
----------------------------------    ------   -------------------------------------------------
<S>                                      <C>   <C>
Herzle Bodinger (1)................      62    Chairman of the board and president
Adar Azancot.......................      40    Chief executive officer
Elan Sigal.........................      38    Chief financial officer
Zvi Alon...........................      51    Vice president, business development and marketing
Dov Sella..........................      50    Vice president and chief operating officer
Adrian Berg (2)....................      57    Director
Roy Kui Chuen Chan (3).............      58    Director
Ben Zion Gruber (2)................      46    Director
Michael  Letchinger (1)............      49    Director
Hava Snir (4)......................      62    Outside director
Zvi Tropp (4)......................      64    Outside director
-------------------------------------------------------------------------------------------------
</TABLE>

_________________________
(1)      Mr. Bodinger and Mr. Letchinger will serve as directors until our 2007
annual general meeting of shareholders.

(2)      Messrs. Berg and Gruber will serve as directors until our 2005 annual
general meeting of shareholders.

(3)      Mr. Chan will serve as a director until our 2006 annual general meeting
of shareholders.

(4)      Ms. Snir and Mr. Tropp will serve as outside directors pursuant to the
provisions of the Israeli Companies Law for three-year terms until our 2006
annual general meeting of shareholders. Thereafter, their terms of service may
not be renewed.

      HERZLE BODINGER joined us in May 1997 as the president of our U.S.
subsidiary, Rada Electronic Industries Inc., in charge of international
marketing activities and was appointed our president and chief executive officer
in June 1998. General (Res.) Bodinger has served as chairman of the board since
July 1998. General (Res.) Bodinger served as the Commander of the Israeli Air
Force from January 1992 through July 1996. During the last 35 years of his
service, he also served as a fighter pilot while holding various command
positions. General (Res.) Bodinger holds a B.A. degree in Economics and Business
Administration from the Bar-Ilan University and completed the 100th Advanced
Management Program at Harvard University.


                                       41
<PAGE>


      ADAR AZANCOT joined us in July 1997 as marketing manager in charge of
marketing activities aimed at the Israel Defense Forces and was appointed vice
president-business development in March 1999. Mr. Azancot was appointed chief
executive officer in July 2001. Mr. Azancot served for 14 years as a fighter
pilot in the Israeli Air Force while holding various command positions. Mr.
Azancot holds an LL.B. degree in Law from Tel Aviv University.

      ELAN SIGAL re-joined us in January 2004 as chief financial officer. From
May 2000 to December 2003, Mr. Sigal worked as a management consultant in the
London office of McKinsey & Co., a leading global management consulting firm.
Prior to that Mr. Sigal worked with us from July 1997 to April 2000, initially
as a system engineer developing one of our leading products, and later as a
marketing manager. For nine years Mr. Sigal served as a fighter pilot in the
Israeli Air Force. Mr. Sigal holds a B.A. degree in Economics from Tel Aviv
University.

      ZVI ALON joined us in January 2000 and served as our vice president and
chief operating officer until March 30, 2003 when he was appointed vice
president of business development and Marketing. From 1980 to 1999 (except for a
period from 1987 until 1989), Mr. Alon served in various managerial positions
with the Israel Aircraft Industries, as director of business development and
marketing, director of electrical and avionics engineering, avionics programs
manager and group leader and operational definition officer of the "Lavi"
project office. Previously, Mr. Alon served in the Israeli Air Force for ten
years. Mr. Alon holds a B.Sc. degree in Mathematics and Computer Science and an
M.Sc. degree in Computer Science, both from Tel Aviv University.

      DOV SELLA joined us in January 2003 and was appointed chief operating
officer on March 30, 2003. Mr. Sella has over 20 years of senior management and
product development experience. From 1982 until 1997 Mr. Sella worked for Elbit
Systems Ltd., a leading Israeli defense contractor. Among his roles at Elbit
were director of programs, director of avionics engineering and director of
business development. Between 1997 and 2000, Mr. Sella served UltraGuide Ltd., a
medical devices start-up, as executive vice president and vice president of
business development and vice president of research and development. During the
three years prior to joining our company, Mr. Sella was the president of
NeuroVision Inc., a medical technology start-up. Mr. Sella has a B.Sc. degree in
Computer Engineering from the Technion Israel Institute of Technology (cum
laude). He served as a fighter aircraft navigator in the Israeli Air Force.

      ADRIAN BERG has served as a director since November 1997. Mr. Berg is a
designee of Horsham Enterprises Ltd. Since 1976, Mr. Berg has been a chartered
accountant and senior partner at the U.K. firm, Alexander & Co., Chartered
Accountants. Mr. Berg holds a B.Sc. degree in Industrial Administration from the
University of Salford and received his qualification as a fellow of the U.K.
Institute of Chartered Accountants in 1973 after he completed three years of
training at Arthur Andersen & Co.


                                       42
<PAGE>


      ROY KUI CHUEN CHAN has served as a director since November 1997. Mr. Chan
is a designees of Horsham Enterprises Ltd. Mr. Chan has been legal consultant to
Yeung Chi Shing Estates Limited, a Hong Kong holding company with major
interests in hotels and real estate in Hong Kong, China, the U.S., Canada and
Australia, and its international group of companies, since 1984. Mr. Chan
presently serves as legal counsel to several Hong Kong companies, including
Horsham Enterprises Ltd. Mr. Chan received his qualification as a solicitor and
has been a member of the U.K. bar since 1979 after he completed five years of
training at Turners Solicitors.

      BEN ZION GRUBER was elected as a designee of the shareholders (excluding
Howard Yeung) that participated in our last private placement. Mr. Gruber is
founder and manager of several real estate and construction companies and an
entrepreneur involved in several hi-tech companies. Mr. Gruber is a Colonel
(Res) of the Israeli Defense Forces serving as Brigadier Commander of a tank
battalion. Mr. Gruber holds an M.A. degree in Behavioral Sciences from Tel Aviv
University, a B.Sc. degree in Engineering of microcomputers from "Lev"
Technology Institute and is currently studying for his PhD degree in Behavioral
Sciences at the University of Middlesex, England. In addition Mr. Gruber is a
graduate of a summer course in Business Administration at Harvard University, as
well as several other courses and training in management, finance and
entrepreneurship. Mr. Gruber is a member of the Board of Employment Service of
the Government of Israel. He also serves on the boards of directors of the
Company for Development of Efrat Ltd., and the Association of Friends of "Kefar
Shaul" Hospital. Mr. Gruber serves on the Ethics Committees of the Eitanim and
Kefar Shaul Hospitals as well as a director of several other charitable
organizations.

      MICHAEL LETCHINGER was elected as a designee of Horsham Enterprises Ltd.
in November 2004. Since 2000, Mr. Letchinger has been General Counsel and Senior
Vice President-Managing of Potomac Golf Properties, LLC, a company engaged in
real estate development and free standing golf facilities. From 1994 to 2000,
Mr. Letchinger was General Counsel and Senior Vice President-Managing of Potomac
Development Associates, a sister company of Potomac Golf Properties, LLC. Mr.
Letchinger holds a B.A. degree in economics from Brandeis University, Waltham,
Massachusetts, and a JD from University of Chicago Law School.

      HAVA SNIR has served as an outside director since December 2000. Ms. Snir
has been an attorney for over 25 years and has been self-employed since January
1999. From June 1989 until July 1998, Ms. Snir was a prosecutor with the
Taxation and Economics Office of the Tel Aviv District Attorney, specializing in
securities laws and white-collar crimes. Ms. Snir received her qualification as
a lawyer and has been a member of the Israel Bar since 1971. She is a member of
the Taxes Committee and the Sub-Committee for V.A.T. and Customs Duty of the
Israel Bar Association and serves as chairman of the V.A.T. and Property Tax
Appeal Committee of the Israeli Ministry of Finance and as a member of the
Ethics Committee of the Israeli Ministry of Health. Ms. Snir holds a B.A. degree
in Law from the Hebrew University of Jerusalem and spent a year at Harvard
University where she took law courses.


                                       43
<PAGE>


      ZVI TROPP has served as an outside director since December 2000. From
November 2000 until April 2003, Mr. Tropp served as the chief executive officer
of Enavis Networks Ltd, a wholly owned subsidiary of ECI Telecom Ltd. Since
April 2003 Mr. Tropp has served as senior consultant with Zenovar Consultants
Ltd. Zenovar an Israeli company providing consultancy services with respect to
business organization, marketing and real estate. Mr. Tropp was vice
president-finance and business development of Baltimore Spice Israel Ltd., an
Israeli food additives manufacturer, from January 1994 until May 1998. Prior
thereto, Mr. Tropp served in various positions in the private sector. Prior to
joining the private sector, Mr. Tropp was a government employee for 20 years and
held various positions with the Israeli Ministries of Defense and Agriculture,
the last of which was as chief economic adviser to the Ministry of Defense. Mr.
Tropp has lectured in Economics and Defense Economics at the Hebrew University,
Tel Aviv University and Bar Ilan University. Mr. Tropp serves as a member of the
board of directors of Ofek Trust Fund Ltd., an Israeli affiliate of Bank Leumi
Le-Israel B.M., whose shares trade on the Tel Aviv Stock Exchange, of ELBIT
Medical Imaging Ltd, whose shares are traded on NASDAQ, and of several Israeli
private companies. Mr. Tropp holds a B.Sc. degree in Agriculture and an M.Sc.
degree in Agricultural Economics, both from the Hebrew University.

B     COMPENSATION

      The following table sets forth all compensation we paid with respect to
all of our directors and executive officers as a group for the year ended
December 31, 2004.

<TABLE>
<CAPTION>
                                                      Salaries, fees,          Pension, retirement
                                                  commissions and bonuses     and similar benefits
                                                  -----------------------     --------------------
<S>                                                      <C>                          <C>
All directors and executive officers
as a group, consisting then of 11 persons                $707,910                     $274,340
</TABLE>

      During the year ended December 31, 2004, we paid each of our outside
directors a per meeting attendance fee of NIS 1,000 ($232) plus an annual fee of
NIS 18,000 ($4,178).

      As of December 31, 2004, our directors and executive officers as a group,
consisting of eleven persons, held options to purchase an aggregate of 1,673,000
ordinary shares, at exercise prices ranging from $0.69 to $6.25 per share,
vesting over three years. These options expire between 2009 and 2013. Of such
options 144,000 options were issued under our 1999 employee stock option plan
and 1,529,000 options were issued under our 2003 employee stock option plan. In
2004, 31,250 options were exercised, 43,750 forfeited and 26,667 were cancelled.

C     BOARD PRACTICES

ELECTION OF DIRECTORS

      Pursuant to our articles of association, the board of directors is divided
into three classes. Generally, at each annual meeting of shareholders one class
of directors is elected for a term of three years by a vote of the holders of a
majority of the voting power represented and voting at such meeting. All the
members of our board of directors (except the outside directors as detailed
below) may be reelected upon completion of their term of office.


                                       44
<PAGE>


ALTERNATE DIRECTORS

      Our articles of association provide that any director may appoint, by
written notice to us, another person to serve as an alternate director, subject
to the approval of the board of directors. Pursuant to the Israeli Companies
Law, any person, including a person already acting as director or alternate
director in a company may act as an alternate director at such company,
provided, however, that the if such alternate director is a member of any
committee of the board of directors the same person may not act as an alternate
for member of such committee.. An alternate director may be appointed for one
meeting or for another specified period or until notice is given of the
cancellation of the appointment. To our knowledge, no director currently intends
to appoint any other person as an alternate director, except if the director is
unable to attend a meeting of the board of directors.

OUTSIDE AND INDEPENDENT DIRECTORS

      The Israeli Companies Law requires Israeli companies with shares that have
been offered to the public in or outside of Israel to appoint at least two
outside directors. No person may be appointed as an outside director if the
person or the person's relative, partner, employer or any entity under the
person's control has or had, on or within the two years preceding the date of
the person's appointment to serve as outside director, any affiliation with the
company or any entity controlling, controlled by or under common control with
the company. The term affiliation includes:

      o   an employment relationship;

      o   a business or professional relationship maintained on a regular basis;

      o   control; and

      o   service as an officer holder.

      No person may serve as an outside director if the person's position or
other activities create, or may create, a conflict of interest with the person's
responsibilities as an outside director or may otherwise interfere with the
person's ability to serve as an outside director. If, at the time outside
directors are to be appointed, all current members of the board of directors are
of the same gender, then at least one outside director must be of the other
gender.

      Outside directors are elected at our annual general meeting of
shareholders. The shareholders voting in favor of their election must include at
least one-third of the shares of the non-controlling shareholders of the company
who are present at the meeting. This minority approval requirement need not be
met if the total shareholdings of those non-controlling shareholders who vote
against their election represent 1% or less of all of the voting rights in the
company. Outside directors serve for a three-year term, which may be renewed for
only one additional three-year term. Outside directors can be removed from
office only by the same special percentage of shareholders as can elect them, or
by a court, and then only if the outside directors cease to meet the statutory
qualifications with respect to their appointment or if they violate their duty
of loyalty to the company.


                                       45
<PAGE>


      Any committee of the board of directors must include at least one outside
director and the audit committee must include all of the outside directors. An
outside director is entitled to compensation as provided in regulations
promulgated under the Israeli Companies Law and is otherwise prohibited from
receiving any other compensation, directly or indirectly, in connection with
such service.

      Under the Israeli Companies Law, we are required to establish an audit
committee consisting of both our outside directors and a third director, who is
not: (i) the chairman of the board of directors; (ii) employed by the company or
provides services to the company; or (iii) a controlling shareholder or a
relative thereof. In addition, the Nasdaq Stock Market requires us to have at
least two independent directors on our board of directors and to establish an
audit committee. Ms. Snir and Mr. Tropp qualify both as independent directors
under the Nasdaq Stock Market requirements and as outside directors under the
Israeli Companies Law requirements. Mr. Adrian Berg serves as the third member
of our audit committee.

APPROVAL OF RELATED PARTY TRANSACTIONS UNDER ISRAELI LAW

      The Israeli Companies Law codifies the fiduciary duties that "office
holders," including directors and executive officers, owe to a company. An
office holder's fiduciary duties consist of a duty of care and a duty of
loyalty. The duty of care requires an office holder to act at a level of care
that a reasonable office holder in the same position would employ under the same
circumstances. The duty of loyalty includes avoiding any conflict of interest
between the office holder's position in the company and his personal affairs,
avoiding any competition with the company, avoiding exploiting any business
opportunity of the company in order to receive personal gain for the office
holder or others, and disclosing to the company any information or documents
relating to the company's affairs which the office holder has received due to
his position as an office holder. Each person listed as a director or executive
officer in the table under " -- Directors and Senior Management" above is an
office holder. Under the Israeli Companies Law, all arrangements as to
compensation of office holders who are not directors require approval of our
board of directors, and the compensation of office holders who are directors
must be approved by our audit committee, board of directors and shareholders.

      The Israeli Companies Law requires that an office holder promptly disclose
any personal interest that he or she may have and all related material
information known to him or her, in connection with any existing or proposed
transaction by us. In addition, if the transaction is an extraordinary
transaction, that is, a transaction other than in the ordinary course of
business, other than on market terms, or likely to have a material impact on the
company's profitability, assets or liabilities, the office holder must also
disclose any personal interest held by the office holder's spouse, siblings,
parents, grandparents, descendants, spouse's descendants and the spouses of any
of the foregoing, or by any corporation in which the office holder or a relative
is a 5% or greater shareholder, director or general manager or in which he or
she has the right to appoint at least one director or the general manager. Some
transactions, actions and arrangements involving an office holder (or a third
party in which an office holder has an interest) must be approved by the board
of directors or as otherwise provided for in a company's articles of
association, as not being adverse to the company's interest. In some cases, such
a transaction must be approved by the audit committee and by the board of
directors itself (with further shareholder approval required in the case of
extraordinary transactions). An office holder who has a personal interest in a
matter, which is considered at a meeting of the board of directors or the audit
committee, may not be present during the board of directors or audit committee
discussions and may not vote on this matter, unless the majority of the members
of the board or the audit committee have a personal interest, as the case may
be.


                                       46
<PAGE>


      The Israeli Companies Law also provides that some transactions between a
public company and a controlling shareholder, or transactions in which a
controlling shareholder of the company has a personal interest but which are
between a public company and another entity, require the approval of the board
of directors and of the shareholders. Moreover, an extraordinary transaction
with a controlling shareholder or the terms of compensation of a controlling
shareholder must be approved by the audit committee, the board of directors and
shareholders. The shareholder approval for an extraordinary transaction must
include at least one-third of the shareholders who have no personal interest in
the transaction and are present at the meeting. The transaction can be approved
by shareholders without this one-third approval, if the total shareholdings of
those shareholders who have no personal interest and voted against the
transaction do not represent more than one percent of the voting rights in the
company.

      However, under the Companies Regulations (Relief From Related Party
Transactions), 5760-2000, promulgated under the Israeli Companies Law and
amended in January 2002, certain transactions between a company and its
controlling shareholder(s) do not require shareholder approval. In addition,
pursuant to the recent amendment to these regulations, directors' compensation
and employment arrangements do not require the approval of the shareholders if
both the audit committee and the board of directors agree that such arrangements
are for the benefit of the company. If the director or the office holder is a
controlling shareholder of the company, then the employment and compensation
arrangements of such director or office holder do not require the approval of
the shareholders provided that certain criteria are met.

      The above exemptions will not apply if one or more shareholders, holding
at least 1% of the issued and outstanding share capital of the company or of the
company's voting rights, objects to the grant of such relief, provided that such
objection is submitted to the company in writing not later than seven (7) days
from the date of the filing of a report regarding the adoption of such
resolution by the company pursuant to the requirements of the Israeli Securities
Law. If such objection is duly and timely submitted, then the compensation
arrangement of the directors will require shareholders' approval as detailed
above.

      The Israeli Companies Law provides that an acquisition of shares in a
public company must be made by means of a tender offer if as a result of the
acquisition the purchaser would become a 25% shareholder of the company. This
rule does not apply if there is already another 25% shareholder of the company.
Similarly, the Israeli Companies Law provides that an acquisition of shares in a
public company must be made by means of a tender offer if as a result of the
acquisition the purchaser would become a 50% shareholder of the company, unless
there is a 50% shareholder of the company. These rules do not apply if the
purchase of the shares is made through a private placement, provided that such
private placement has been properly approved by the shareholders of the company.
In addition, these rules do not apply if the shares are purchased from another
25% shareholder of the company or from another 45% shareholder of the company.
Regulations under the Israeli Companies Law provide that its tender offer rules
do not apply to a company whose shares are publicly traded outside of Israel, if
pursuant to the applicable foreign securities laws and stock exchange rules
there is a restriction on the acquisition of any level of control of the
company, or if the acquisition of any level of control of the company requires
the purchaser to make a tender offer to the public shareholders.


                                       47
<PAGE>


INDEMNIFICATION AND INSURANCE OF DIRECTORS AND OFFICERS INDEMNIFICATION OF
DIRECTORS AND OFFICERS

      The Israeli Companies Law provides that an Israeli company cannot
exculpate an office holder from liability with respect to a breach of his duty
of loyalty, but may exculpate in advance an office holder from his liability to
the company, in whole or in part, with respect to a breach of his duty of care,
provided that such breach is not connected to distributions of dividends and
repurchase of the Company's securities as detailed in the Israeli Companies Law.
Our articles of association do not permit us to exculpate an office holder.

      The Israeli Companies Law provides that a company may, if permitted by its
articles of association, enter into a contract for the insurance of the
liability of any of its office holders with respect to an act performed by him
in his capacity as an office holder, for:

     o    a breach of his duty of care to us or to another person;

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

     o    a financial liability imposed upon him in favor of another person in
          respect of an act performed by him in his capacity as an office
          holder.

     o    Our articles of association provide that we may enter into a contract
          for the insurance of the liability, in whole in part, of any of our
          office holders, to the maximum extent permitted by the Israeli
          Companies Law.

     o    In addition, our articles of association provide that we may, with
          respect to an act performed in the capacity of an office holder,
          indemnify an office holder retroactively against:

     o    a financial liability imposed on him in favor of another person by any
          judgment, including a settlement or an arbitrator's award approved by
          a court; and

     o    reasonable litigation expenses, including attorneys' fees, expended by
          such office holder or charged to him by a court, in a proceedings we
          instituted against him or instituted on our behalf or by another
          person, or in a criminal charge from which he was acquitted.

      These provisions are specifically limited in their scope by the Israeli
Companies Law, which provides that a company may not indemnify an office holder,
nor enter into an insurance contract which would provide coverage for any
monetary liability incurred as a result of certain improper actions. However,
pursuant to a recent amendment to the Israeli Companies Law, a company may
indemnify any of its office holders for reasonable litigation costs incurred by
such office holder in connection with any investigation or other legal
proceedings taken by any governmental or other authorized authority, provided
that:


                                       48
<PAGE>


     o    such investigation or proceedings did not result in indictment or if
          such indictment has been filed the hearing of the charges has been
          stayed by the Israeli State Attorney;

     o    The charges have not been substituted by a monetary liability.

      In addition, pursuant to such recent amendment a company may indemnify any
of its office holders for reasonable litigation costs incurred by it also if the
charges have been substituted by monetary liability provided the offense in
which such office holder has been indicted does not require criminal intent.

      Pursuant to the Israeli Companies Law, indemnification of, and procurement
of insurance coverage for, our office holders must be approved by our audit
committee and our board of directors and, if such office holder is a director,
also by our shareholders.

      We have undertaken to indemnified our office holders to the fullest extent
permitted by law. We currently maintain a directors and officers liability
insurance policy with a per claim and aggregate coverage limit of $5.0 million.

EMPLOYMENT AGREEMENTS

      On May 1, 1997, we entered into an employment agreement with Mr. Herzle
Bodinger who assumed the position of the general director of our International
Division. Mr. Bodinger was appointed our chief executive officer and president
in June 1998. Nonetheless, his terms of employment have not changed. The
agreement provides for a base salary and a package of benefits including options
and warrants and contains certain non-competition and confidentiality
provisions. The agreement does not provide for any benefits upon termination of
employment, except for benefits to which Mr. Bodinger is entitled under Israeli
law. Such benefits include severance payments equal to one month salary per each
year of employment with us. Under the agreement, the term of Mr. Bodinger's
employment will continue until such time as it is terminated by us, subject to
providing Mr. Bodinger with a six-month prior notice. Mr. Bodinger may terminate
the agreement on a one-month prior notice. As of October 24, 2001, Mr. Bodinger
relinquished the chief executive officer position to Adar Azancot retaining the
positions of president and chairman of our board of directors. We are currently
negotiating a new employment agreement with Mr. Bodinger. As part of these
negotiations, Mr. Bodinger agreed, effective as of September 2003, to reduce his
monthly salary. Mr. Bodinger agreed to a further reduction in his salary as of
February 1, 2004.

      On July 9, 2001, we entered into an employment agreement with Mr. Adar
Azancot, our chief executive officer. The agreement provides for the same base
salary and a package of customary benefits Mr. Azancot had as vice president of
marketing and business development and contains certain non-competition and
confidentiality provisions. In September 2002 our board of directors resolved to
increase Mr. Azancot's base salary.


                                       49
<PAGE>


AUDIT COMMITTEE

      Our audit committee, established in accordance with Section 114 of the
Israeli Companies Law and Section 3(a)(58)(A) of the Securities Exchange Act of
1934, assists our board of directors in overseeing the accounting and financial
reporting processes of our company and audits of our financial statements,
including the integrity of our financial statements, compliance with legal and
regulatory requirements, our independent public accountants' qualifications and
independence, the performance of our internal audit function and independent
public accountants, finding any defects in the business management of our
company for which purpose the audit committee may consult with our independent
auditors and internal auditor, proposing to the board of directors ways to
correct such defects, approving related-party transactions as required by
Israeli law, and such other duties as may be directed by our board of directors.

      Our Audit Committee consists of three board members who satisfy the
"independence" requirements of the SEC, Nasdaq and Israeli Law for audit
committee members. Our audit committee is currently composed of Ms. Hava Snir
and Mr. Zvi Tropp, both satisfying all of these requirements and Mr. Adrian
Berg, who satisfies the "independence' requirements of audit committee members
under the Israeli Law. The audit committee meets at least once each quarter.

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

      The Audit Committee reviewed our audited financial statements for the year
ended December 31, 2004 and members of the committee met with both management
and our external auditors to discuss those financial statements. Management and
the external auditors have represented to the Audit Committee that the financial
statements were prepared in accordance with the generally accepted accounting
principles. Members of the Audit Committee have received from and discussed with
the external auditors their written disclosure and letter regarding their
independence from our company as required by Independence Standards Board
Standard No. 1. Members of the Audit Committee also discussed with the external
auditors any matters required to be discussed by Statement on Auditing Standards
No. 61. Based upon these reviews and discussions, the Audit Committee has
recommended to the board of directors that the audited financial statements be
included in our Annual Report on Form 20-F for the year ended December 31, 2004.

OTHER COMMITTEES

      Our board of directors established a Compensation Committee composed of
Mr. Zvi Trop and Mr. Adrian Berg. The Compensation Committee is authorized to
determine all compensations issues, especially to administer our option plans
and to make recommendations to our board of directors in connection with option
grants to our employees and directors, and the terms thereof. The Compensation
Committee will also make recommendation to our board of directors in connection
with the terms of employment of our chief executive officer and president.


                                       50
<PAGE>


INTERNAL AUDIT

      The Israeli Companies Law also requires the board of directors of a public
company to appoint an internal auditor nominated by the audit committee. A
person who does not satisfy the Israeli Companies Law's independence
requirements may not be appointed as an internal auditor. The role of the
internal auditor is to examine, among other things, the compliance of the
company's conduct with applicable law and orderly business practice. Our
internal auditor complies with the requirements of the Israeli Companies Law.

D.    EMPLOYEES

      On December 31, 2004, we employed 106 persons, of whom 41 were employed in
research, development and engineering, 51 persons in manufacturing and
logistics, 4 persons in sales and marketing, and 10 persons in administration
and management and finance. All of our employees are located in Israel. In
addition, CACS (our 80% owned subsidiary) employed 18 persons in China.

      On December 31, 2003, we employed 99 persons, of whom 27 were employed in
research, development and engineering, 54 persons in manufacturing and
logistics, 4 persons in sales and marketing, and 11 persons in administration
and management and finance. All of our employees are located in Israel. In
addition, CACS (our 80% owned subsidiary) employed 18 persons in China.

      On December 31, 2002, we employed 104 persons, of whom 27 were employed in
research, development and engineering, 69 persons in manufacturing and
logistics, 4 persons in sales and marketing, and 10 persons in administration
and management and finance. All of our employees are located in Israel. In
addition, CACS (our 80% owned subsidiary) employed 16 persons in China.

      Our technical employees have signed nondisclosure agreements covering all
proprietary information that they might possess or to which they might have
access. Employees are not organized in any union, although they are employed
according to provisions established by the Israeli Ministry of Labor. Certain
provisions of the collective bargaining agreements between the Histadrut
(General Federation of Labor in Israel) and the Coordination Bureau of Economic
Organizations (including the Industrialists Association) are applicable to our
Israeli employees by order of the Israeli Ministry of Labor. These provisions
concern mainly the length of the workday, minimum daily wages for professional
workers, contributions to a pension fund, insurance for work-related accidents,
procedures for dismissing employees, determination of severance pay and other
conditions of employment. We generally provide our employees with benefits and
working conditions beyond the required minimums. Under the collective bargaining
agreements, the wages of most of our employees are linked to the Israeli
consumer price index, although the extent of the linkage is limited.

      Israeli law generally requires severance pay upon the retirement or death
of an employee or termination of employment without due cause. Further, Israeli
employees and employers are required to pay predetermined sums to the National
Insurance Institute which is similar to the United States Social Security
Administration, such amounts also include payments for national health
insurance. Most of our ongoing severance obligations for our Israeli employees
are provided for by monthly payments made by us for insurance policies to cover
these obligations.


                                       51
<PAGE>


E.    SHARE OWNERSHIP

BENEFICIAL OWNERSHIP OF EXECUTIVE OFFICERS AND DIRECTORS

      The following table sets forth certain information as of March 31, 2005
regarding the beneficial ownership by each of our directors and executive
officers:

<TABLE>
<CAPTION>


                                                     NUMBER OF ORDINARY
                                                           SHARES                PERCENTAGE OF
                         NAME                       BENEFICIALLY OWNED (1)       OWNERSHIP (2)
                         ----                       ----------------------       -------------
         <S>                                            <C>                          <C>
         Herzle Bodinger (3).......................       225,000                    1.1%
         Adar Azancot (3) (4)......................       225,000                    1.1%
         Elan Sigal (3) (5)........................        41,667                      *
         Zvi Alon (3) (6)..........................       219,000                    1.1%
         Dov Sella (3).............................        75,001                      *
         Adrian Berg (7) (8).......................       193,600                      *
         Roy Kui Chuen Chan (9) (10)...............       133,600                      *
         Ben Zion Gruber (3)(11)...................       241,582                    1.2%
         Michael Letchinger (12) ..................            --                     --
         Hava Snir (3).............................            --                     --
         Zvi Tropp (3) ............................            --                     --
         All directors and executive officers as a      1,354,450                    6.6%
         group (11) persons)(13)...................

      --------------------------
      *  Less than 1%
</TABLE>

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

(2)   The percentages shown are based on 20,458,364 ordinary shares issued and
      outstanding as of March 31, 2005.

(3)   The business addresses of Messrs. Bodinger, Alon, Sela, Shelly, Sigal,
      Azancot, Gruber, Tropp and Ms. Snir is c/o RADA Electronic Industries
      Ltd., 7 Giborei Israel Street, Netanya, Israel.

(4)   All such ordinary shares are subject to currently exercisable options
      granted under our stock option plans, 200,000 options at an exercise price
      of $0.69 per share and 25,000 options at an exercise price of $1.34 per
      share. The options expire in September 2013.


                                       52
<PAGE>


(5)   All such ordinary shares are subject to currently exercisable options
      granted under our stock option plans, at an exercise price of $1.29 per
      share. The options expire in September 2013.

(6)   All such ordinary shares are subject to currently exercisable options
      granted under our stock option plans, 48,000 options at an exercise price
      of $3.75 per share, 48,000 options at an exercise price of $5.00 per
      share, 48,000 options at an exercise price of $6.25 per share and 75,000
      options at an exercise price of $0.69 per share. 144,000 options expire in
      June 2010 and 75,000 options in September 2013.

(7)   The business address of Mr. Berg is Alexander & Co., 17 St. Ann's Square,
      Manchester M2 7 PW, U.K.

(8)   Includes 189,000 ordinary shares subject to currently exercisable options
      granted under our stock option plans, at an exercise price of $1.34 per
      share. The options expire in September 2013.

(9)   The business address of Mr. Chuen Chan is Gearhart Holdings (H.K.)
      Limited, 2202 Kodak House II, 39 Healthy Street, E. North Point, Hong
      Kong.

(10)  Includes 129,000 ordinary shares subject to currently exercisable options
      granted under our stock option plans, at an exercise price of $1.34 per
      share. The options expire in September 2013.

(11)  Includes 204,082 ordinary shares issuable upon currently exercisable
      warrants at an exercise price of $2.00 per share that were issue in
      connection with the private placement of our shares in June 2002. 37,500
      of such ordinary shares are subject to currently exercisable options
      granted under our stock option plans, at an exercise price of $1.34 per
      share. The options expire in September 2013.

(12)  The business address of Mr. Letchinger is 2709 Rittenhouse Street,
      Washington DC, 20015, USA.

(13)  Includes 204,082 ordinary shares issuable upon the exercise of currently
      exercisable warrants, at an exercise price of $2 per share that were
      issued in connection with a private placement of our shares in June 2002.
      Such warrants expire on June 30, 2007,

STOCK OPTION PLANS

      Our 1994 Stock Option Plan, or the 1994 Plan expired on November 23, 2004
and no options can be granted after such date.

      Options granted under the 1994 Plan may be for a maximum term of ten years
from the date of grant. The exercise price of an option granted to an employee
may not be less than 60% of the fair market value of our ordinary shares on the
date of grant of the option. The exercise price of an option to a non-employee
director or consultant may not be less than 80% of the fair market value of our
ordinary shares on the date of grant of the option. If any option expires
without having been fully exercised, the shares with respect to which such
option has not been exercised will be available for future grants.

      Options may not be transferable by the optionee otherwise than by will or
the laws of descent and distribution and during the optionee's lifetime are
exercisable only by the optionee. Options terminate before their expiration
dates one year after the optionee's death while in our employ, three months
after the optionee's retirement for reasons of age or disability or involuntary
termination of employment other than for cause, and immediately upon voluntary
termination of employment or involuntary termination of employment for cause.


                                       53
<PAGE>


      Our board of directors may, at its discretion, modify, revise or terminate
the 1994 Plan at any time, except that the aggregate number of shares issuable
pursuant to options may not be increased (except in the event of certain changes
in our capital structure), the eligibility provisions and minimum option price
may not be changed, or the permissible maximum term of options may not be
increased without the consent of our shareholders.

      The 1994 Plan also contained provisions protecting optionees against
dilution of the value of their options in the case of stock splits, stock
dividends or other changes in our capital structure, in the event of any
proposed reorganization or merger involving our company or in the event of any
spin-off or distribution of assets to our shareholders.

      1996 STOCK OPTION PLAN

      Our 1996 Stock Option Plan, or the 1996 Plan, authorizes the issuance of
options to key employees and consultants, including officers and directors of
our company and its subsidiaries, to purchase an aggregate of 5,600 ordinary
shares, who, in the judgment of the board of directors or, if appointed in the
future, a committee which will administer the 1996 Plan, are in position to
contribute significantly to our success. The board of directors or the committee
will determine the number of shares covered by each option, and the formulation,
within the limitations of the 1994 Plan, of the form of option The terms of the
1996 Plan are substantially the same as those of the 1994 Plan.

      As of March 31, 2005, options to purchase 4,400 ordinary shares had been
granted to 2 employees and directors at an average exercise price of $3.84 per
share. All of such options are currently exercisable. No options have been
exercised to date.

      1999 STOCK OPTION PLAN

      Our 1999 Stock Option Plan, or the 1999 Plan, provides for the issuance of
stock options to purchase an aggregate of 325,200 of our ordinary shares.
Options under the 1999 Plan may be issued to key employees and consultants,
including officers and directors of our company and its subsidiaries who, in the
judgment of the board of directors or, if appointed in the future, a committee
which will administer the 1999 Plan, are in a position to contribute
significantly to our success. The terms of the 1999 Plan are substantially the
same as those of the1996 Plan. As of March 31, 2005, options to purchase 259,200
ordinary shares had been granted to 12 employees at an average exercise price of
$4.55 per share. Of such options, options to purchase 259,200 ordinary shares
are currently exercisable.


                                       54
<PAGE>


      2003 STOCK OPTION PLAN

      Our 2003 Stock Option Plan, or the 2003 Plan, provides for the issuance of
stock options to purchase an aggregate of 2,000,000 of our ordinary shares.
Options under the 2003 Plan may be issued to employees including officers and
directors of our company and its subsidiaries who, in the judgment of the board
of directors based on the recommendation of our compensation committee, are in a
position to contribute significantly to our success. The provisions of our 2003
Plan are designated to allow for the tax benefits promulgated under the Israeli
Income Tax Ordinance [New Version]. Our Board of Directors has resolved that all
options that will be granted to Israeli residents under the 2003 Plan will be
taxable under the "capital gains path." Pursuant to this path the profit
realized by the employee is taxed as a capital gain (25%) if the options or
shares are held by a trustee for at least 24 months from the end of the tax year
in which such options were granted. If the shares are sold before the lapse of
said 24 months period, the profit is re-characterized as ordinary income. The
company is not allowed a corresponding salary expense, even in the event the
profit is taxed as ordinary income. Otherwise, the terms of the 2003 Plan are
substantially the same as those of the 1994 Plan. As of March 31, 2005 options
to purchase 1,952,000 ordinary shares had been granted. Of such options, 83,335
options have been exercised and 110, 832 have been cancelled or forfeited.
Options to purchase 1,308,001 ordinary shares are currently exercisable.

ITEM 7.  MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS

A.    MAJOR SHAREHOLDERS

      Mr. Howard Yeung is the beneficial holder of 40% of our outstanding
shares, and holds currently exercisable warrants to purchase an additional
12,047,301 of our ordinary shares. Accordingly, Mr. Howard Yeung may be deemed
to control our company.

      The following table sets forth certain information as of March 31, 2005,
regarding the beneficial ownership by all shareholders known to us to own
beneficially 5% or more of our ordinary shares:

<TABLE>
<CAPTION>
                                                       Number of
                                                    Ordinary Shares              Percentage of
Name                                             Beneficially Owned(1)           Ownership(2)
----                                             ----------------------          -------------
<S>                                                  <C>                             <C>
Howard P.L. Yeung (3)(4)(5)(6).................      20,407,861                      62.8%
Kenneth Yeung (3)(7)...........................       1,350,086                       6.6%
Most Worth Investments Limited (8).............       1,100,000                       5.4%
Bank Leumi le-Israel B.M (9) (10)..............       2,929,197                      12.5%
Bank Hapoalim BM (11) (12).....................       1,952,798                       8.7%
</TABLE>

      -------------

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

      (2)    The percentages shown are based on 20,458,364 ordinary shares
outstanding as of March 31, 2005.


                                       55
<PAGE>


      (3)    Of the 20,407,861 ordinary shares, 1,350,086 shares are held by
Horsham Enterprises Ltd., a corporation incorporated in the British Virgin
Islands. Messrs. Howard P.L. Yeung and his brother Kenneth Yeung are the
beneficial owners, in equal shares, of Horsham Enterprises Ltd. Accordingly,
Messrs. Yeung may be deemed to be the beneficial owners of the ordinary shares
held by Horsham Enterprises Ltd.

      (4)    Includes 8,265,306 ordinary shares issuable upon the exercise of
currently exercisable warrants issued to Mr. Howard P.L. Yeung.

      (5)    Includes 3,781,995 ordinary shares issuable to Mr. Howard P.L.
Yeung in the event he acquires warrants from Bank Leumi le-Israel B.M. and Bank
Hapoalim BM. by exercising a call option granted to him by such banks pursuant
to an option agreement dated September 24, 2003.

      (6)    The address of Mr. Howard P.L. Yeung is 2202 Kodak Houge II, 39
Healthy Street, North Point, Hong Kong.

      (7)    The address of Mr. Kenneth Yeung is 2202 Kodak Houge II, 39 Healthy
Street, North Point, Hong Kong.

      (8)    The address of Most Worth Investments Ltd., a company incorporated
in Hong Kong, is c/o 9/F King Fook Building, 30-32 Des Voeux Road, Central, Hong
Kong. Most Worth Investments is a wholly owned subsidiary of King Fook Holdings
Limited, whose shares are traded on the Hong Kong Stock Exchange. Accordingly,
King Fook Holdings may be deemed to be the beneficial owner of the ordinary
shares held by Most Worth Investments.

      (9)    Includes 660,000 ordinary shares issuable upon the exercise of
currently exercisable warrants and 2,269,197 ordinary shares issuable by
exercising a put option granted pursuant to an option agreement dated September
24, 2003.

      (10)   The address of Bank Leumi Le-Israel B.M. is 24-32 Yehuda Halevi
Street, Tel Aviv 65546, Israel.

      (11)   Includes 440,000 ordinary shares issuable upon the exercise of
currently exercisable warrants and 1,512,798 ordinary shares issuable by
exercising a put option granted pursuant to an option agreement dated September
24, 2003.

      (12)   The address of Bank Hapoalim BM is 50 Rothchild Street, Tel Aviv,
Israel.

      (13)   Includes 400,000 ordinary shares issuable upon currently
exercisable warrants at an exercise price of $2.50 per share, 229,125 ordinary
shares issuable upon currently exercisable additional investment rights at an
exercise price of $2.10 per share and 609,524 ordinary shares issuable upon
currently exercisable convertible notes that were all issued in connection with
the private placement of our shares in July 2004.

      As of March 29, 2005, there were 322 holders of record of our ordinary
shares. Based on a review of the information provided to us by our transfer
agent, 293 record holders holding approximately 61.3% of our ordinary shares had
registered addresses in the United States. We believe that there were
approximately 1,420 beneficial holders of our ordinary shares in March 2005.


                                       56
<PAGE>


B.    RELATED PARTY TRANSACTIONS

      On April 23, 2002, we entered into a loan agreement with Mr. Yeung,
according to which he provided us with a $550,000 loan facility. The purpose of
the facility was to provide us with short term working capital. We utilized
$350,000 of the facility between April to June 2002. The remainder of this
facility was subsequently converted into our ordinary shares.

      On June 9, 2002, our shareholders approved the conversion of $1,350,000 of
the principal amount of loans granted by Mr. Howard P.L. Yeung, one of our
controlling shareholders into 2,755,102 of our ordinary shares at a price of
$0.49 per share, which is equal to 70% of the average closing price of our
ordinary shares for the ten (10) trading days prior to June 9, 2002. In
addition, we agreed to issue to Mr. Yeung warrants to purchase 8,265,306
ordinary shares. Such warrants will be outstanding for five years and will be
exercisable during the first 36 months at an exercise price of $2.00 per share,
and during the subsequent 24 month period, at an exercise price which shall be
equal to the higher of: (i) $2.00 per share or (ii) 50% of the average closing
price of our ordinary shares during the ten (10) trading days prior to the
exercise date.

      We also agreed to provide Mr. Yeung with the right to cause us to file a
registration statement with the U.S. Securities Exchange Commission commencing
one year after the issuance date, to register the resale of the ordinary shares
issued and the ordinary shares issuable upon exercise of the warrants.

      On June 22, 2003 we signed a memorandum of agreement with Bank Hapoalim
B.M. and Bank Leumi Le-Israel B.M., or the Banks, which agreement was approved
by our shareholders at an extraordinary general meeting of shareholders that was
held on July 22, 2003. Pursuant to the agreement that was finalized on September
24, 2003, we restructured $3,451,000 of our outstanding debt to the Banks. We
repaid $1,100,000 on account of our debt the Banks, and the Banks forgave
$1,100,000 of debt and received warrants to purchase 3,781,995 of our ordinary
shares, at an exercise price that is equal to the nominal (par) value of our
shares, in lieu of $1,251,000 of our debt. These warrants expire on March 24,
2006 and may not be exercised for a period of 21 months unless transferred
pursuant to the call or put options described below. The Banks also agreed to
grant us an additional short-term line of credit of $500,000 to finance our cash
flow requirements during 2003. As part of the agreement, our controlling
shareholder, Mr. Howard P. L. Yeung, agreed to grant the Banks a put option
allowing the Banks to require him to purchase the above warrants for the
consideration of $1,251,000, exercisable within a period of 45 days commencing
on March 24, 2005 and the Banks granted Mr. Yeung a call option allowing him to
require the Banks, during a period of 18 months, commencing as of September 24,
2003, and in the event that the Banks do not exercise their put option, during
an additional 90 day period commencing as of May 9, 2005, to sell him such
warrants at a price that is not lower than $1,251,000 and not higher then
$1,770,165, depending upon the average close price of our ordinary shares during
the 90 business days prior to such exercise. We also granted the Banks warrants
to purchase an additional 1,100,000 ordinary shares at an exercise price of
$2.00 per share, exercisable for 5 years, commencing as of September 24, 2003.

C.    INTERESTS OF EXPERTS AND COUNSEL

      Not applicable.


                                       57
<PAGE>


ITEM 8.  FINANCIAL INFORMATION

A.    CONSOLIDATED STATEMENTS AND OTHER FINANCIAL INFORMATION

LEGAL PROCEEDINGS

      In December 1998, Haim Nissenson, our former president and chief executive
officer, filed a complaint against us and Herzle Bodinger, our incumbent
president, in the Regional Court for Labor Disputes of Tel Aviv (Case No.
3/4074/98 H. NISSENSON V. RADA ELECTRONIC INDUSTRIES LTD. AND OTHERS), seeking
approximately NIS 2.0 million (approximately $500,000) for salary, vacation and
severance payments and other benefits that he is allegedly entitled to pursuant
to his retirement agreement with us. In addition, Mr. Nissenson is seeking a
permanent injunction and a declarative relief, stating that a personal loan that
was provided to him by us had been forgiven. Mr. Nissenson is also asserting
that Mr. Bodinger caused the breach of the retirement agreement. We defended the
claim vigorously asserting, among others, that (i) the retirement agreement is
not valid since it was not approved pursuant to the requirements of the
applicable law; (ii) Mr. Nissenson was responsible for our company's precarious
financial condition at the time he resigned and for the concealment of these
facts from our board of directors and our investors; (iii) during the board of
directors meeting in which such agreement was discussed and approved, we alleged
that Mr. Nissenson misrepresented our financial and economic condition and the
nature and origins of his debt to us; and (iv) by breaching his fiduciary duties
Mr. Nissenson caused us damages in amounts that exceed the amount of the
complaint, which damages should be offset from any amounts awarded in favor of
Mr. Nissenson, if any. In addition, we asserted that in accordance to a
certificate dated March 23, 1992, Mr. Nissenson assigned all his rights to
receive employment related benefits other than salaries, including severance and
vacation payments up to the above certificate date. The hearing of this claim
was combined with the hearing of our claim for repayment of the loan granted to
Mr. Nissenson, as detailed below and the court is currently hearing the
testimonies of Mr. Nissenson's witnesses. Our management believes that this
claim will not have a material adverse effect on our financial condition or
results of operations In addition, the income tax authorities has informed us
that they may seek to collect the salary tax due in respect of the retirement
arrangements of Mr. Nissenson which are the subject matter of this litigation.

      In October 2000, Mr. Guy Nissenson, the son of our former chief executive
officer, filed a complaint in the District Court of Tel-Aviv against, Mr.
Bodinger (Civil Case 2733/99 G. NISSENSON V. H. BODINGER), alleging that Mr.
Bodinger made defamatory comments regarding him during a board meeting. The
complaint seeks damages in the amount of NIS 1.1 million (approximately
$250,000). On June 2004 the District Court completely denied the claim and
compelled the plaintiff to pay litigation costs in the amount of NIS 50,000. The
plaintiff appealed the judgment to the Israeli Supreme Court and the appeal is
pending.


                                       58
<PAGE>


      In September 1999, we filed a suit in the District Court of Tel-Aviv
against Messrs. Haim Nissenson and Eles Dubronsky, a former board member, (Civil
File 2514/99 RADA ELECTRONIC INDUSTRIES LTD. V. H. NISSENSON AND OTHERS) seeking
damages in the amount of $1.4 million. In the complaint, we alleged that Messrs.
Nissenson and Dubronsky: (i) represented to our board of directors inaccurate
and incomplete information, and (ii) failed to disclose, during the course of
our board's deliberations to acquire Jetborne International, Ltd., their
personal interest in Jetborne International and Mr. Nissenson's involvement in a
previous attempt to gain control of Jetborne International several years
earlier. We alleged that our board of directors approved the acquisition based
on the inaccurate and incomplete information and that the acquisition caused
severe losses. We further alleged that in their conduct Messrs. Nissenson and
Dubronsky breached their fiduciary duty owed to us and to our shareholders while
acting as an executive and members of our board of directors. Our motion to
attach the funds deposited by Mr. Nissenson in his pension funds was denied by
the Court in May 2000. The suit is currently in its preliminary stages.

      In August 2000, we filed a claim against Mr. Haim Nissenson in the
Regional Court for Labor Disputes in Tel Aviv (Case No. 7049/00 RADA ELECTRONIC
INDUSTRIES LTD. V. NISSENSON.) in the amount of NIS 2.0 million (approximately
$460,000) for the repayment of the loan granted by us to Mr. Nissenson that
allegedly was forgiven by us in Mr. Nissenson's retirement agreement, as
mentioned above. The hearings of both Mr. Nissenson's and our claims in the
Regional Court for Labor Disputes were joined and the court is currently hearing
testimony.

      In May 2001, Mr. Haim Nissenson filed a suit against us in the District
Court of Tel Aviv (Civil Case 1715/01 H. NISSENSON V. RADA ELECTRONIC INDUSTRIES
LTD.) for damages allegedly suffered by him as a result the cancellation of an
attachment imposed by us on his pension funds in connection with the previously
mentioned Jetborne International litigation. The claim is for NIS 1.0 million
(approximately $230,000). We are defending the suit vigorously and denied all of
Mr. Nissenson's allegations.

      In June 2001, we filed a counter claim against Mr. Haim Nissenson, his
wife and another former director for damages caused us as a result of transfers
of funds to third parties that were made in breach of fiduciary duties owed to
us by Mr. Nissenson and the other former director. In addition, we are seeking a
declaratory judgment stating that Mrs. Nissenson is liable to us for the
repayment of the loan provided to Mr. Nissenson, jointly with Mr. Nissenson. We
are also seeking a declaration that the transfer of the title to Mr. Nissenson's
house and another apartment to his wife without consideration in the beginning
of 1997 are void and were made to avoid the repayment of outstanding loans to
us.

      In January 2001, we filed a suit against our former controller, Mr.
Mordechai Perera in the Regional Court for Labor Disputes in Tel Aviv (Case No.
1672/01 RADA ELECTRONIC INDUSTRIES LTD. V. PERERA) in the amount of
approximately $300,000 for the repayment of a loan provided to him. While Mr.
Perera does not deny that he received such amount, he claims that it was
promised to him on account of his compensation and was registered as a loan in
the books of our company for tax purposes. He further claims that Mr. Nissenson
orally promised him that such loan would be forgiven. In March 2001, Mr. Perera
filed a counter claim in the amount of approximately $575,000 for various
payments to which he is allegedly entitled in connection with his employment and
termination thereof by us, including bonus, severance payments, vacation
redemption and overtime payments. The hearing of our case is now in progress.


                                       59
<PAGE>


      In February 2001, we filed a suit against Mr. Eles Dubronsky, a former
member of our board of directors, in the District Court of Tel Aviv (Civil Case
1158/01 RADA ELECTRONIC INDUSTRIES LTD. V. E. DUBRONSKY) in the amount of
approximately $250,000. We maintain that Mr. Dubronsky is personally responsible
for drafting and executing Mr. Nissenson's retirement agreement and that in such
capacity he breached his fiduciary duties to our company and should the Labor
Court decide that the retirement agreement is valid and enforceable against us,
Mr. Dubronsky has to indemnify us for all the damages caused to us as a result
of such Court decision. The District Court has issued a stay of the proceedings
pending resolution of the Labor Court proceedings detailed above.

      In May 2001, Mr. David Kenig, a former member of our board of directors,
filed a claim against us in the District Court of Tel Aviv (Civil Case 1791/01
KENIG V. RADA ELECTRONIC INDUSTRIES LTD.) seeking a declaration that he is
entitled to receive options to purchase 600,000 of our ordinary shares under the
same terms and conditions as those granted by us to other directors in 1999, and
an injunction enforcing us to issue such options to him. Based on legal advice,
we believe that the claim has no merits. In July 2001 we filed a counter-claim
in the amount of NIS 500,000. In the counter-claim we maintain that Mr. Kenig is
personally responsible for executing Mr. Nissenson's retirement agreement and
that in such capacity he breached his fiduciary and care duties towards us and
should the Labor Court decide that the retirement agreement is valid and
enforceable against us, then Mr. Kenig has to indemnify us for all the damages
caused to us as a result of such Labor Court decision. The District Court has
issued a stay of the hearings pending resolution of the Labor Court proceedings
detailed above.

      In August 2004, Mr. Nissenson filed a suit against us, and our office
holders, Messers. Bodinger, Azancot, Agmon, Trop, Sigal and Ms, Snir and against
our former chief financial officer, Mr. Ronen Stein, in the District Court of
Tel Aviv (Civil Case 56365/04 NISSENSON V. RADA ELECTRONIC INDUSTRIES LTD. AND
OTHERS), seeking damages in the amount of NIS 1.0 million (approximately
$230,000) and alleging that the description of the claim filed against him and
another former director in connection with the acquisition of our formerly owned
subsidiary Jetborne International, Ltd. included in our annual reports on Form
20-F and certain press releases contains defamatory allegations with respect to
Mr. Nissenson. We believe that we and our officers have valid defenses against
these claims. According to Israeli law, the usual award in defamatory claims is
low and does not exceed NIS 500,000 (approximately $115,000).

      We are involved in legal proceedings arising from the operation of our
business from time to time. Based on the advice of our legal counsel, management
believes such other current proceedings will not have a material adverse effect
on our financial position or results of operations.

DIVIDEND DISTRIBUTION

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


                                       60
<PAGE>


      According to the Israeli Companies Law, a company may distribute dividends
out of its profits, so long as the company reasonably believes that such
dividend distribution will not prevent the company from paying all its current
and future debts. Profits, for purposes of the Israeli Companies Law, means the
greater of retained earnings or earnings accumulated during the preceding two
years. In the event cash dividends are declared, such dividends will be paid in
NIS.

B. SIGNIFICANT CHANGES

      Since the date of the annual consolidated financial statements included in
this annual report, we entered into an asset purchase agreement with Vectop Ltd.
an Israeli company specializing in the design, development marketing and sale of
electro-optic equipment and debriefing systems. On February 2005, we purchased
all the assets, including know-how, intellectual property and patents that were
used by, or connected to, Vectop's business. In addition, we are assuming
$800,000 of Vectop's bank debt, payable commencing from 2006 over a two-year
period, as well as other operational liabilities.

ITEM 9.  THE OFFER AND LISTING

A.    OFFER AND LISTING DETAILS

      ANNUAL STOCK INFORMATION

      The following table sets forth, for each of the years indicated, the range
of high ask and low bid prices of our ordinary shares on the Nasdaq National
Market or the Nasdaq SmallCap Market:

<TABLE>
<CAPTION>
      YEAR                                        HIGH           LOW
      ----                                      ---------      --------
      <S>                                         <C>            <C>
      2000.................................       $10.47         $1.80
      2001.................................         2.58          1.48
      2002.................................         1.80          0.54
      2003.................................         2.37          0.41
      2004.................................         3.44          1.14
</TABLE>

      QUARTERLY STOCK INFORMATION

      The following table sets forth, for each of the full financial quarters in
the years indicated, the range of high ask and low bid prices of our ordinary
shares on the Nasdaq SmallCap Market:

<TABLE>
<CAPTION>
      2003                                        HIGH           LOW
      ----                                      ---------      --------
      <S>                                         <C>            <C>
      First Quarter........................       $0.68          $0.54
      Second Quarter.......................        1.04           0.41
      Third Quarter........................        0.76           0.59
      Fourth Quarter.......................        2.37           0.55
</TABLE>


                                       61
<PAGE>


<TABLE>
<CAPTION>
      2004                                        HIGH           LOW
      ----                                        ------         -----
      <S>                                         <C>            <C>
      First Quarter........................       $1.99          $1.44
      Second Quarter.......................        3.44           1.41
      Third Quarter........................        2.32           1.14
      Fourth Quarter.......................        1.64           1.16
</TABLE>

      MONTHLY STOCK INFORMATION

      The following table sets forth, for the most recent six months, the range
of high ask and low bid prices of our ordinary shares on the Nasdaq SmallCap
Market:

<TABLE>
<CAPTION>
      2004                                        HIGH           LOW
      ----                                        ------         -----
      <S>                                         <C>            <C>
      October.............................        $1.35          $1.16
      November............................         1.60           1.28
      December............................         1.64           1.40
</TABLE>

<TABLE>
<CAPTION>
      2005
      ----
      <S>                                         <C>            <C>
      January.............................        $1.74          $1.40
      February............................         2.00           1.54
      March...............................         1.88           1.55
</TABLE>

B.    PLAN OF DISTRIBUTION

      Not applicable.

C.    MARKETS

      Our ordinary shares traded on the Nasdaq National Market under the symbol
"RADIF" from 1985 until June 10, 2002 when the listing of our ordinary shares
was transferred to the Nasdaq SmallCap Market. On December 13, 2004, we changed
our symbol to "RADI"

D.    SELLING SHAREHOLDERS

      Not applicable.

E.    DILUTION

      Not applicable.

F.    EXPENSE OF THE ISSUE

      Not applicable.


                                       62
<PAGE>


ITEM 10. ADDITIONAL INFORMATION

A.    SHARE CAPITAL

      Not applicable.

B.    MEMORANDUM AND ARTICLES OF ASSOCIATION

      We are registered with the Israeli Companies Registry and have been
assigned company number 52-003532-3. Section 2 of our memorandum of association
provides that we were established for the purpose of engaging in the business of
providing services of planning, development, consultation and instruction in the
electronics field. In addition, the purpose of our company is to perform various
corporate activities permissible under Israeli law.

      On February 1, 2000, the Israeli Companies Law came into effect and
superseded most of the provisions of the Israeli Companies Ordinance (New
Version), 5743-1983, except for certain provisions which relate to liens,
bankruptcy, dissolution and liquidation of companies. Under the Companies Law,
various provisions, some of which are detailed below, overrule the current
provisions of our articles of association.

      THE POWERS OF THE DIRECTORS

      Under the provisions of the Companies Law and our articles of association,
a director cannot participate in a meeting nor vote on a proposal, arrangement
or contract in which he or she is materially interested. In addition, our
directors cannot vote compensation to themselves or any members of their body
without the approval of our audit committee and our shareholders at a general
meeting. See "Item 6A. Directors, Senior Management and Employees - Approval of
Related Party Transactions Under Israeli Law."

      The authority of our directors to enter into borrowing arrangements on our
behalf is not limited, except in the same manner as any other transaction by us.

      Under our articles of association, retirement of directors from office is
not subject to any age limitation and our directors are not required to own
shares in our company in order to qualify to serve as directors.

      RIGHTS ATTACHED TO SHARES

      Our authorized share capital consists of 45,000,000 ordinary shares of a
nominal value of NIS 0.005 each. All outstanding ordinary shares are validly
issued, fully paid and non-assessable. The rights attached to the ordinary
shares are as follows:

      DIVIDEND RIGHTS. Holders of our ordinary shares are entitled to the full
amount of any cash or share dividend subsequently declared. The board of
directors may declare interim dividends and propose the final dividend with
respect to any fiscal year only out of the retained earnings, in accordance with
the provisions of the Israeli Companies Law. Our articles of association provide
that the declaration of a dividend requires approval by an ordinary resolution
of the shareholders, which may decrease but not increase the amount proposed by
the board of directors. See "Item 8A. Financial Information - Consolidated and
Other Financial Information - Dividend Distribution." If after one year a
dividend has been declared and it is still unclaimed, the board of directors is
entitled to invest or utilize the unclaimed amount of dividend in any manner to
our benefit until it is claimed. We are not obligated to pay interest or linkage
differentials on an unclaimed dividend.


                                       63
<PAGE>


      VOTING RIGHTS. Holders of ordinary shares have one vote for each ordinary
share held on all matters submitted to a vote of shareholders. Such voting
rights may be affected by the grant of any special voting rights to the holders
of a class of shares with preferential rights that may be authorized in the
future.

      An ordinary resolution, such as a resolution for the declaration of
dividends, requires approval by the holders of a majority of the voting rights
represented at the meeting, in person, by proxy or by written ballot and voting
thereon. Under our articles of association, a special resolution, such as
amending our memorandum of association or articles of association, approving any
change in capitalization, winding-up, authorization of a class of shares with
special rights, or other changes as specified in our articles of association,
requires approval of a special majority, representing the holders of no less
than 75% of the voting rights represented at the meeting in person, by proxy or
by written ballot, and voting thereon.

      Pursuant to our articles of association, our directors are elected at our
annual general meeting of shareholders by a vote of the holders of a majority of
the voting power represented and voting at such meeting. See "Item 6A.
Directors, Senior Management and Employees - Election of Directors."

      RIGHTS TO SHARE IN THE COMPANY'S PROFITS. Our shareholders have the right
to share in our profits distributed as a dividend and any other permitted
distribution. See "- Rights Attached to Shares - Dividend Rights."

      RIGHTS TO SHARE IN SURPLUS IN THE EVENT OF LIQUIDATION. In the event of
our liquidation, after satisfaction of liabilities to creditors, our assets will
be distributed to the holders of ordinary shares in proportion to the nominal
value of their holdings. This right may be affected by the grant of preferential
dividend or distribution rights to the holders of a class of shares with
preferential rights that may be authorized in the future.

      LIABILITY TO CAPITAL CALLS BY THE COMPANY. Under our memorandum of
association and the Companies Law, the liability of our shareholders is limited
to the par value of the shares held by them.

      LIMITATIONS ON ANY EXISTING OR PROSPECTIVE MAJOR SHAREHOLDER. See Item 6A.
"Directors and Senior Management - Approval of Related Party Transactions Under
Israeli Law."

      CHANGING RIGHTS ATTACHED TO SHARES

      According to our articles of association, in order to change the rights
attached to any class of shares, unless otherwise provided by the terms of the
class, such change must be adopted by a general meeting of the shareholders and
by a separate general meeting of the holders of the affected class with a
majority of 75% of the voting power participating in such meeting.


                                       64
<PAGE>


      ANNUAL AND EXTRAORDINARY MEETINGS

      The board of directors must convene an annual meeting of shareholders at
least once every calendar year, within fifteen months of the last annual
meeting. Notice of at least thirty days prior to the date of the meeting is
required. An extraordinary meeting may be convened by the board of directors, as
it decides or upon a demand of any two directors or 25% of the directors,
whichever is lower, or of one or more shareholders holding in the aggregate at
least 5% of our issued capital and at least 1% of the voting rights in our
company. An extraordinary meeting must be held not more than thirty-five days
from the publication date of the announcement of the meeting.

      The quorum required for an ordinary meeting of shareholders consists of at
least two shareholders present in person or represented by proxy who hold or
represent, in the aggregate, at least one third of the voting rights of the
issued share capital. A meeting adjourned for lack of a quorum generally is
adjourned to the same day in the following week at the same time and place or
any time and place as the directors designate in a notice to the shareholders.
At the reconvened meeting, the required quorum consists of any two members
present in person or by proxy.

      LIMITATIONS ON THE RIGHTS TO OWN SECURITIES IN OUR COMPANY

      Neither our memorandum of association or our articles of association nor
the laws of the State of Israel restrict in any way the ownership or voting of
shares by non-residents, except with respect to subjects of countries which are
in a state of war with Israel.

      PROVISIONS RESTRICTING CHANGE IN CONTROL OF OUR COMPANY

      The Companies Law requires that mergers between Israeli companies be
approved by the board of directors and general meeting of shareholders of both
parties to the transaction. The approval of the board of directors of both
companies is subject to such board's confirmation that there is no reasonable
doubt that after the merger the surviving company will be able to fulfill its
obligations towards its creditors. Each company must notify its creditors about
the contemplated merger. Generally, under the Companies Law, our articles of
association are deemed to include a requirement that such merger be approved by
an extraordinary resolution of the shareholders, as explained above. The
approval of the merger by the general meetings of shareholders of the companies
is also subject to additional approval requirements as specified in the
Companies Law and regulations promulgated thereunder. See also "Item 6A.
Directors, Senior Management and Employees - Directors and Senior Management -
Approval of Related Party Transactions Under Israeli Law."

      DISCLOSURE OF SHAREHOLDERS OWNERSHIP

      The Israeli Securities Law and regulations promulgated thereunder do not
require a company whose shares are publicly traded solely in a stock exchange
outside of Israel, as in the case of our company, to disclose its share
ownership.


                                       65
<PAGE>


      CHANGES IN OUR CAPITAL

      Changes in our capital are subject to the approval of the shareholders at
a general meeting by a special majority of 75% of the votes of shareholders
participating and voting in the general meeting.

C.    MATERIAL CONTRACTS

      None.

D.    EXCHANGE CONTROLS

      Israeli law and regulations do not impose any material foreign exchange
restrictions on non-Israeli holders of our ordinary shares. In May 1998, a new
"general permit" was issued under the Israeli Currency Control Law, 1978, which
removed most of the restrictions that previously existed under such law, and
enabled Israeli citizens to freely invest outside of Israel and freely convert
Israeli currency into non-Israeli currencies.

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

E.    TAXATION

      The following is a summary of the current tax structure applicable to
companies in Israel, with special reference to its effect on us and our
shareholders. The following also contains a discussion of Israeli government
programs benefiting us. To the extent that the discussion is based on a new tax
legislation that has not been subject to judicial or administrative
interpretation, we cannot assure you that the tax authorities will accept the
views expressed in the discussion in question. The discussion is not intended,
and should not be taken, as legal or professional tax advice and is not
exhaustive of all possible tax considerations.

      GENERAL CORPORATE TAX RATE

      Until December 31, 2003, the regular tax rate applicable to income of
companies was 36%. In June 2004, an amendment to the Income Tax Ordinance (No.
140 and Temporary Provision), 2004 was passed by the Israeli parliament, the
Knesset, which determines, among other things, that the corporate tax rate is to
be gradually reduced to the following tax rates: 2004 - 35%, 2005 - 34%, 2006 -
32% and 2007 and thereafter - 30%.


                                       66
<PAGE>


      LAW FOR THE ENCOURAGEMENT OF INDUSTRY (TAXES), 1969

         We believe that we currently qualify as an "industrial company" within
the meaning of the Law of the Encouragement of Industry (Taxes), 1969 (the
"Industry Encouragement Law"). According to the Industry Encouragement Law, an
"industrial company" is a company resident in Israel, at least 90% of the income
of which in any tax year, determined in Israeli currency (exclusive of income
from defense loans, capital gains, interest and dividends) is derived from an
"industrial enterprise" that it owns. An "industrial enterprise" is defined by
that law as an enterprise whose major activity in a given tax year is industrial
production activity.

      The following preferred Company Tax benefits are available to industrial
companies such as ours:

     o    Deduction of purchases of know-how and patents over eight years for
          tax purposes.

     o    Deduction of expenses incurred in connection with a public share
          issuance over a three-year period.

     o    Accelerated depreciation rates on equipment and buildings.

     o    A right to file, under certain conditions, consolidated tax returns
          with related Israeli industrial companies.

      Eligibility for the benefits under the Industry Encouragement Law is not
subject to receipt of prior approval from any governmental authority. We cannot
assure you that we will continue to qualify as an "industrial company" or that
the benefits described above will be available in the future.

      TAXATION UNDER INFLATIONARY CONDITIONS

      The Income Tax Law (Inflationary Adjustments), 1985, or the Adjustment for
Inflation Law represents an attempt to overcome the problems presented to a
traditional tax system by an economy undergoing rapid inflation. Generally, the
Adjustment for Inflation Law was designed to neutralize for Israeli tax purposes
the erosion of capital investments in businesses and to prevent unintended tax
benefits resulting from the deduction of inflationary financing expenses. The
Adjustment for Inflation Law applies a supplementary set of inflationary
adjustments to a normal taxable profit computed according to regular historical
cost principles.

      The Adjustment for Inflation Law introduced a special adjustment for the
preservation of equity for the tax purpose based on changes in the Israeli
consumer price index, whereby corporate assets are classified broadly into fixed
(inflation resistant) assets and non-fixed assets. Where the shareholders'
equity, as defined in the Adjustment for Inflation Law, exceeds the depreciated
costs of fixed assets, a corporate tax deduction which takes into account the
effect of inflationary change on such excess is allowed (up to a ceiling of 70%
of taxable income in any single tax year, with the unused portion permitted to
be carried forward on an inflation-linked basis with no ceiling). If the
depreciated costs of fixed assets exceeds shareholders' equity, then such excess
multiplied by the annual rate of inflation is added to taxable income.


                                       67
<PAGE>


      In addition, subject to certain limitations, depreciation on fixed assets
and loss carry forwards are adjusted for inflation based on changes in the
Israeli consumer price index. The net effect of the Adjustment for Inflation Law
on us might be that our taxable income, as determined for Israeli Company Tax
purposes, will be different from our U.S. dollar income, as reflected in our
financial statements, due to the difference between the annual changes in the
consumer price index and in the NIS exchange rate with respect to the U.S.
dollar, causing changes in the actual tax rate.

      LAW FOR THE ENCOURAGEMENT OF INDUSTRIAL RESEARCH AND DEVELOPMENT, 1984

      Under the Law for the Encouragement of Industrial Research and
Development, 1984, or the Research Law, and the Instructions of the director
general of the Ministry of Industry and Trade, research and development programs
and the plans for the intermediate stage between research and development and
manufacturing and sales, approved by a governmental committee of the Office of
the Chief Scientist are eligible for grants of up to 50% of the project's
expenditure if they meet certain criteria. These grants are issued in return for
the payment of royalties from the sale of the product developed in accordance
with the program as follows: 3% of revenues during the first three years, 4% of
revenues during the following three years, and 5% of revenues in the seventh
year and thereafter, with the total royalties not to exceed 100% of the dollar
value of the Office of the Chief Scientist grant (or in some cases up to 300%).
Following the full payment of such royalties, there is no further liability for
payment.

      The Israeli government requires that the manufacture of products developed
with government grants be performed in Israel, unless a special approval has
been granted. Separate Israeli government consent is required to transfer to
third parties technologies developed through projects in which the government
participates. Such restrictions do not apply to exports from Israel of products
developed with such technologies.

      In order to meet certain conditions in connection with the grants and
programs of the Office of the Chief Scientist, we have made some representations
to the Israeli government about our future plans for our Israeli operations.
From time to time the extent of our Israeli operations has differed and may in
the future differ, from our representations. If, after receiving grants under
certain of such programs, we fail to meet certain conditions to those benefits
or if there is any material deviation from the representations made by us to the
Israeli government, we could be required to refund to the State of Israel tax or
other benefits previously received (including interest and consumer price index
linkage difference) and would likely be denied receipt of such grants or
benefits, and participation of such programs, thereafter.

      TAXATION OF NON-RESIDENTS

      The State of Israel imposes income tax on non-residents of Israel on
income accrued or derived from sources in Israel or received in Israel by
non-residents. The sources of income include passive income such as dividends,
royalties and interest, as well as non-passive income from services rendered in
Israel. We are required to withhold income tax at the rate of 25%, or 15% for
dividends of income generated by an approved enterprise, on all distributions of
dividends other than bonus shares (stock dividends), unless a different rate is
provided in a treaty between Israel and the shareholder's country of residence.
Under the Convention between the Government of the United States of America and
the Government of Israel with Respect to Taxes on Income, or the Israeli-U.S.
Treaty, the maximum tax on dividends paid to a holder of ordinary shares who is
a U.S. resident (as defined in the treaty) is 25%.


                                       68
<PAGE>


      Israel law imposes a capital gains tax on the sale of securities and other
capital assets. Under current law, however, sales of our ordinary shares are
exempt from Israeli capital gains tax for so long as the shares are quoted on
Nasdaq or listed on a stock exchange recognized by the Israeli Ministry of
Finance, provided that we continue to qualify as an "industrial company" or
"industrial holding company." See - "Tax Benefits under the Law for the
Encouragement of Industry (Taxes), 1969." Furthermore, under the Israeli-U.S.
Treaty, a holder of ordinary shares who is a U.S. resident will generally be
exempted from Israeli capital gain tax on the sale of ordinary shares unless
such holder owned, directly or indirectly, 10% or more of our voting power at
any time during the 12-month period before the sale.

      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 exempted from the duty to file tax returns in Israel with respect to
such income, provided such income was not derived from a business conducted in
Israel by the taxpayer and the taxpayer has no other taxable sources of income
in Israel.

      Israel presently has no estate or gift tax.

      REFORM OF INCOME TAXES IN ISRAEL

      On July 24, 2002, Amendment 132 to the Israeli Tax Ordinance (the
"Amendment") was approved by the Israeli parliament and came into effect on
January 1, 2003. The principal objectives of the amendment were to broaden the
categories of taxable income and to reduce the tax rates imposed on employees'
income.

      The material consequences of the amendment applicable to our company
include, among other things, imposing a tax upon all income of Israeli
residents, individuals and corporations, regardless of the territorial source of
the income and certain modifications in the qualified taxation tracks of
employee stock options. In addition, a foreign tax credit was introduced,
allowing us to credit the income tax paid by our subsidiaries abroad against our
tax liabilities on dividends paid to us by such subsidiaries.

      UNITED STATES FEDERAL INCOME TAX CONSEQUENCES

      The following is a summary of certain material U.S. federal income tax
consequences that apply to U.S. Holders who hold ordinary shares as capital
assets. This summary is based on the United States Internal Revenue Code of
1986, as amended (the "Code"), Treasury regulations promulgated thereunder,
judicial and administrative interpretations thereof, and the U.S.-Israel Tax
Treaty, all as in effect on the date hereof and all of which are subject to
change either prospectively or retroactively. This summary does not address all
tax considerations that may be relevant with respect to an investment in
ordinary shares. This summary does not discuss all the tax consequences that may
be relevant to a U.S. Holder in light of such holder's particular circumstances
or to U.S. Holders subject to special rules, including persons that are non-U.S.
Holders, broker-dealers, financial institutions, certain insurance companies,
investors liable for alternative minimum tax, tax-exempt organizations,
regulated investment companies, non-resident aliens of the U.S. or taxpayers
whose functional currency is not the U.S. dollar, persons who hold the ordinary
shares through partnerships or other pass-through entities, persons who acquired
their ordinary shares through the exercise or cancellation of employee stock
options or otherwise as compensation for services, investors that actually or
constructively own 10 percent or more of our voting shares, and investors
holding ordinary shares as part of a straddle or appreciated financial position
or as part of a hedging or conversion transaction.


                                       69
<PAGE>


      This summary does not address the effect of any U.S. federal taxation
other than U.S. federal income taxation. In addition, this summary does not
include any discussion of state, local or foreign taxation.

      You are urged to consult your tax advisors regarding the foreign and
United States federal, state and local tax considerations of an investment in
ordinary shares.

      For purposes of this summary, the term "U.S. Holder" means an individual
who is a citizen or, for U.S. federal income tax purposes, a resident of the
United States, a corporation or other entity taxable as a corporation created or
organized in or under the laws of the United States or any political subdivision
thereof, an estate whose income is subject to U.S. federal income tax regardless
of its source, or a trust that (a) is subject to the primary supervision of a
court within the United States and the control of one or more U.S. persons or
(b) has a valid election in effect under applicable U.S. Treasury regulations to
be treated as a U.S. person.

      TAXATION OF DIVIDENDS

      The gross amount of any distributions received with respect to ordinary
shares, including the amount of any Israeli taxes withheld therefrom, will
constitute dividends for U.S. federal income tax purposes to the extent of our
current and accumulated earnings and profits, as determined for U.S. federal
income tax principles. You will be required to include this amount of dividends
in gross income as ordinary income. Distributions in excess of our current and
accumulated earnings and profits will be treated as a non-taxable return of
capital to the extent of your tax basis in the ordinary shares and any amount in
excess of your tax basis will be treated as gain from the sale of ordinary
shares. See "-Disposition of Ordinary Shares" below for the discussion on the
taxation of capital gains. Dividends will not qualify for the dividends-received
deduction generally available to corporations under Section 243 of the Code.

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


                                       70
<PAGE>


      Subject to complex limitations, any Israeli withholding tax imposed on
such dividends will be a foreign income tax eligible for credit against a U.S.
Holder's U.S. federal income tax liability (or, alternatively, for deduction
against income in determining such tax liability). The limitations set out in
the Code include computational rules under which foreign tax credits allowable
with respect to specific classes of income cannot exceed the U.S. federal income
taxes otherwise payable with respect to each such class of income. Dividends
generally will be treated as foreign-source passive income or, in the case of
certain U.S. Holders, financial services income for United States foreign tax
credit purposes. U.S. Holders should note that recently enacted legislation
eliminates the "financial services income" category with respect to taxable
years beginning after December 31, 2006. Under this legislation, the foreign tax
credit limitation categories will be limited to "passive category income" and
"general category income." Further, there are special rules for computing the
foreign tax credit limitation of a taxpayer who receives dividends subject to a
reduced tax, see discussion below. A U.S. Holder will be denied a foreign tax
credit with respect to Israeli income tax withheld from dividends received on
the ordinary shares to the extent such U.S. Holder has not held the ordinary
shares for at least 16 days of the 30-day period beginning on the date which is
15 days before the ex-dividend date or to the extent such U.S. Holder is under
an obligation to make related payments with respect to substantially similar or
related property. Any days during which a U.S. Holder has substantially
diminished its risk of loss on the ordinary shares are not counted toward
meeting the 16-day holding period required by the statute. The rules relating to
the determination of the foreign tax credit are complex, and you should consult
with your personal tax advisors to determine whether and to what extent you
would be entitled to this credit.

      Subject to certain limitations, "qualified dividend income" received by a
noncorporate U.S. Holder in tax years beginning on or before December 31, 2008
will be subject to tax at a reduced maximum tax rate of 15 percent.
Distributions taxable as dividends paid on the ordinary shares should qualify
for the 15 percent rate provided that either: (i) we are entitled to benefits
under the income tax treaty between the United States and Israel (the "Treaty")
or (ii) the ordinary shares are readily tradable on an established securities
market in the United States and certain other requirements are met. We believe
that we are entitled to benefits under the Treaty and that the ordinary shares
currently are readily tradable on an established securities market in the United
States. However, no assurance can be given that the ordinary shares will remain
readily tradable. The rate reduction does not apply unless certain holding
period requirements are satisfied. With respect to the ordinary shares, the U.S.
Holder must have held such shares for at least 61 days during the 121-day period
beginning 60 days before the ex-dividend date. The rate reduction also does not
apply to dividends received from passive foreign investment companies, see
discussion below, or in respect of certain hedged positions or in certain other
situations. The legislation enacting the reduced tax rate contains special rules
for computing the foreign tax credit limitation of a taxpayer who receives
dividends subject to the reduced tax rate. U.S. Holders of ordinary shares
should consult their own tax advisors regarding the effect of these rules in
their particular circumstances.

      DISPOSITION OF ORDINARY SHARES

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


                                       71
<PAGE>


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

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

      PASSIVE FOREIGN INVESTMENT COMPANIES

      For U.S. federal income tax purposes, we will be considered a passive
foreign investment company ("PFIC") for any taxable year in which either (i) 75%
or more of our gross income is passive income, or (ii) at least 50% of the
average value of all of our assets for the taxable year produce or are held for
the production of passive income. For this purpose, passive income includes
dividends, interest, royalties, rents, annuities and the excess of gains over
losses from the disposition of assets which produce passive income. If we were
determined to be a PFIC for U.S. federal income tax purposes, highly complex
rules would apply to U.S. Holders owning ordinary shares. Accordingly, you are
urged to consult your tax advisors regarding the application of such rules.

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

      If we are treated as a PFIC for any taxable year, then, unless you elect
either to treat your investment in ordinary shares as an investment in a
"qualified electing fund" (a "QEF election") or to "mark-to-market" your
ordinary shares, as described below, dividends would not qualify for the reduced
maximum tax rate, discussed above, and


                                       72
<PAGE>


     o    you would be required to allocate income recognized upon receiving
          certain dividends or gain recognized upon the disposition of ordinary
          shares ratably over the holding period for such ordinary shares,

     o    the amount allocated to each year during which we are considered a
          PFIC other than the year of the dividend payment or disposition would
          be subject to tax at the highest individual or corporate tax rate, as
          the case may be, in effect for that year and an interest charge would
          be imposed with respect to the resulting tax liability allocated to
          each such year,

     o    the amount allocated to the current taxable year and any taxable year
          before we became a PFIC would be taxable as ordinary income in the
          current year, and

     o    you would be required to make an annual return on IRS Form 8621
          regarding distributions received with respect to ordinary shares and
          any gain realized on your ordinary shares.

      If you make either a timely QEF election or a timely mark-to-market
election in respect of your ordinary shares, you would not be subject to the
rules described above. If you make a timely QEF election, you would be required
to include in your income for each taxable year your pro rata share of our
ordinary earnings as ordinary income and your pro rata share of our net capital
gain as long-term capital gain, whether or not such amounts are actually
distributed to you. You would not be eligible to make a QEF election unless we
comply with certain applicable information reporting requirements.

      Alternatively, if the ordinary shares are considered "marketable stock"
and if you elect to "mark-to-market" your ordinary shares, you will generally
include in income any excess of the fair market value of the ordinary shares at
the close of each tax year over your adjusted basis in the ordinary shares. If
the fair market value of the ordinary shares had depreciated below your adjusted
basis at the close of the tax year, you may generally deduct the excess of the
adjusted basis of the ordinary shares over its fair market value at that time.
However, such deductions generally would be limited to the net mark-to-market
gains, if any, that you included in income with respect to such ordinary shares
in prior years. Income recognized and deductions allowed under the
mark-to-market provisions, as well as any gain or loss on the disposition of
ordinary shares with respect to which the mark-to-market election is made, is
treated as ordinary income or loss.

      BACKUP WITHHOLDING AND INFORMATION REPORTING

      Payments in respect of ordinary shares may be subject to information
reporting to the U.S. Internal Revenue Service and to U.S. backup withholding
tax at a rate equal to the fourth lowest income tax rate applicable to
individuals (which, under current law, is 28%). Backup withholding will not
apply, however, if you (i) are a corporation or come within certain exempt
categories, and demonstrate the fact when so required, or (ii) furnish a correct
taxpayer identification number and make any other required certification.


                                       73
<PAGE>


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

      Any U.S. holder who holds 10% or more in vote or value of our ordinary
shares will be subject to certain additional United States information reporting
requirements.

      U.S. GIFT AND ESTATE TAX

      An individual U.S. Holder of ordinary shares will be subject to U.S. gift
and estate taxes with respect to ordinary shares in the same manner and to the
same extent as with respect to other types of personal property.

F.    DIVIDEND AND PAYING AGENTS

Not applicable.

G.    STATEMENT BY EXPERTS

Not applicable.

H.    DOCUMENTS ON DISPLAY

      We are subject to the reporting requirements of the United States
Securities Exchange Act of 1934, as amended, as applicable to "foreign private
issuers" as defined in Rule 3b-4 under the Exchange Act, and in accordance
therewith, we file annual and interim reports and other information with the
Securities and Exchange Commission.

      As a foreign private issuer, we are exempt from certain provisions of the
Exchange Act. Accordingly, our proxy solicitations are not subject to the
disclosure and procedural requirements of Regulation 14A under the Exchange Act,
transactions in our equity securities by our officers and directors are exempt
from reporting and the "short-swing" profit recovery provisions contained in
Section 16 of the Exchange Act. In addition, we are not required under the
Exchange Act to file periodic reports and financial statements as frequently or
as promptly as United States companies whose securities are registered under the
Exchange Act. However, we distribute annually to our shareholders an annual
report containing financial statements that have been examined and reported on,
with an opinion expressed by, an independent public accounting firm, and we
intend to file reports with the Securities and Exchange Commission on Form 6-K
containing unaudited financial information for the first three quarters of each
fiscal year.

      This annual report and the exhibits thereto and any other document we file
pursuant to the Exchange Act may be inspected without charge and copied at
prescribed rates at the following Securities and Exchange Commission public
reference rooms: 450 Fifth Street, N.W., Judiciary Plaza, Room 1024, Washington,
D.C. 20549; and on the Securities and Exchange Commission Internet site
(http://www.sec.gov) and on our website www.rada.com. You may obtain information
on the operation of the Securities and Exchange Commission's public reference
room in Washington, D.C. by calling the Securities and Exchange Commission at
1-800-SEC-0330. The Exchange Act file number for our Securities and Exchange
Commission filings is 0-30198.


                                       74
<PAGE>


      The documents concerning our company which are referred to in this annual
report may also be inspected at our offices located at 7 Giborei Israel Street,
Netanya 42504, Israel.

I.    SUBSIDIARY INFORMATION

Not applicable.

ITEM 11. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISKS

INTEREST RATE RISK

      We currently do not invest in, or otherwise hold, for trading or other
purposes, any financial instruments subject to market risk. We pay interest on
our credit facilities and short-term loans based on Libor, for
dollar-denominated loans, and Israeli prime or adjustment differences to the
Israeli consumer price index, for some of our NIS-denominated loans. As a
result, changes in the general level of interest rates directly affect the
amount of interest payable by us under this facility. However, we expect our
exposure to market risk from changes in interest rates to be minimal and not
material. Therefore, no quantitative tabular disclosures are required.

      A devaluation of the NIS in relation to the U.S. dollar has the effect of
reducing the U.S. dollar amount of any of our expenses or liabilities which are
payable in NIS (unless such expenses or payables are linked to the U.S. dollar).
As of December 31, 2004, we had liabilities payable in NIS which are not linked
to the U.S. dollar in the amount of $1.7 million and cash and receivables in the
amount of $1,029,000 denominated in NIS. Accordingly, an increase of 1% of the
NIS against the dollar would increase our financing expenses by approximately
$4,000. A devaluation of 1% of the NIS against the dollar would decrease our
financing expenses by the same amount. However, the amount of liabilities
payable and/or cash and receivables in NIS is likely to change from time to
time.

      Because exchange rates between the NIS and the U.S. dollar fluctuate
continuously (albeit with a historically declining trend in the value of the
NIS), exchange rate fluctuations and especially larger periodic devaluations
will have an impact on our profitability and period-to-period comparisons of our
results. The effects of foreign currency re-measurements are reported in our
consolidated financial statements in continuing operations.

ITEM 12. DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES

      Not applicable.


                                       75
<PAGE>


                                     PART II

ITEM 13. DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES

      None.

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

      None.

ITEM 15. CONTROLS AND PROCEDURES

      Our management, including our chief executive officer and chief financial
officer, evaluated the effectiveness of our disclosure controls and procedures
(as defined in Exchange Act Rule 13a-15(e)) as of the end of the period covered
by this annual report on Form 20-F. Based upon that evaluation, our chief
executive officer and chief financial officer have concluded that, as of such
date, our disclosure controls and procedures were effective to ensure that
information required to be disclosed by our company in reports that we file or
submit under the U.S. Securities Exchange Act of 1934, as amended, is recorded,
processed, summarized and reported within the time periods specified in the
Securities and Exchange Commission's rules and forms and that such information
was made known to them by others within the company, as appropriate to allow
timely decisions regarding required disclosure.

      There were no changes to our internal control over financial reporting
that occurred during the period covered by this annual report on Form 20-F that
have materially affected, or are reasonably likely to materially affect, our
internal control over financial reporting

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

ITEM 16. RESERVED.

ITEM 16A.AUDIT COMMITTEE FINANCIAL EXPERT

      Our board of directors has determined that Mr. Zvi Trop, one of our
outside directors, who qualifies a an independent director as this term is
defined in Nasdaq's Market Rule 4200, meets the definition of an audit committee
financial expert, as defined in Item 401 of Regulation S-K.


                                       76
<PAGE>


ITEM 16B.CODE OF ETHICS

      We have adopted a code of ethics that applies to our chief executive
officer and all senior financial officers of our company, including the chief
financial officer, chief accounting officer or controller, or persons performing
similar functions. The code of ethics is publicly available on our website at
www.rada.com. Written copies are available upon request. If we make any
substantive amendment to the code of ethics or grant any waivers, including any
implicit waiver, from a provision of the codes of ethics, we will disclose the
nature of such amendment or waiver on our website.

ITEM 16C.PRINCIPAL ACCOUNTING FEES AND SERVICES

FEES PAID TO INDEPENDENT PUBLIC ACCOUNTANTS

      The following table sets forth, for each of the years indicated, the fees
paid to our independent public accountants and the percentage of each of the
fees out of the total amount paid to the accountants.

<TABLE>
<CAPTION>
                                                    YEAR ENDED DECEMBER 31,
--------------------------------------------------------------------------------------------------
                                             2003                               2004
--------------------------------------------------------------------------------------------------
SERVICES RENDERED                   FEES           PERCENTAGES          FEES          PERCENTAGES
--------------------------------------------------------------------------------------------------
<S>                                <C>                <C>              <C>               <C>
Audit ..................           $50,000            100%             $66,000           100%
Audit-related ..........                 -              -                    -             -
Tax ....................                 -              -                    -             -
Other...................                 -              -                    -             -
Total ..................           $50,000            100%             $66,000           100%
</TABLE>

PRE-APPROVAL POLICIES AND PROCEDURES

      Our Audit Committee has adopted a policy and procedures for the
pre-approval of audit and non-audit services rendered by our independent public
accountants, Kost Forer Gabbay & Kasierer, a member of Ernst & Young Global.
Pre-approval of an audit or non-audit service may be given as a general
pre-approval, as part of the audit committee's approval of the scope of the
engagement of our independent auditor, or on an individual basis. The policy
prohibits retention of the independent public accountants to perform the
prohibited non-audit functions defined in Section 201 of the Sarbanes-Oxley Act
or the rules of the SEC, and also requires the Audit Committee to consider
whether proposed services are compatible with the independence of the public
accountants.

ITEM 16D.EXEMPTIONS FROM THE LISTING REQUIREMENTS AND STANDARDS FOR AUDIT
         COMMITTEE

      Not applicable.


                                       77
<PAGE>


ITEM 16E.PURCHASE OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATES AND
         PURCHASERS

ISSUER PURCHASE OF EQUITY SECURITIES

      Neither we, nor any "affiliated purchaser" of our company, has purchased
any of our securities during 2004

                                    PART III

ITEM 17. FINANCIAL STATEMENTS

         Not applicable.

ITEM 18. FINANCIAL STATEMENTS

      CONSOLIDATED FINANCIAL STATEMENTS

      Index To Financial Statements......................................... F-1

      Report of Independent Registered Public Accounting Firm............... F-2

      Report of Independent Auditors........................................ F-3

      Consolidated Balance Sheets........................................... F-5

      Consolidated Statements of Operations................................. F-6

      Statements of Changes in Shareholders' Equity ........................ F-7

      Consolidated Statements of Cash Flows................................. F-8

      Notes to Consolidated Financial Statements........................... F-10

ITEM 19..EXHIBITS

                                INDEX TO EXHIBITS

      EXHIBIT             DESCRIPTION

      3.1*    Memorandum of Association of the Registrant

      3.2*    Articles of Association of the Registrant

      4.1*    Specimen of Share Certificate

      8       List of Subsidiaries of the Registrant

      10.1*   1994 Employee Stock Option Plan, as amended

      10.2*   1996 Employee Stock Option Plan, as amended


                                       78
<PAGE>


      10.3*   1999 Employee Stock Option Plan, as amended

      10.4*** 2003 Employee Stock Option Plan, as amended

      10.5*   Form of warrants to directors

      10.6*   Loan Agreement dated June 3, 2001 between the Registrant and Mr.
              Howard Yeung

      10.7*   Deed of Termination of Joint Venture Agreement dated June 3, 2001,
              effective as of January 1, 2000 and Agreement for the acquisition
              of part of the issued share capital of New Reef Holding Ltd. dated
              June 3, 2001

      10.8*** Memorandum of Agreement dated June 23 2003 between the Registrant
              and Bank Hapoalim B.M. and Bank Leumi Le-Israel B.M.

      12.1    Certification of the Chief Executive Officer pursuant to Rule
              13a-14(a) and Rule 15d-14(a) of the Securities Exchange Act, as
              amended

      12.2    Certification of the Chief Financial Officer pursuant to Rule
              13a-14(a) and Rule 15d-14(a) of the Securities Exchange Act, as
              amended

      13.1    Certification of the Chief Executive Officer pursuant to 18 U.S.C.
              1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act
              of 2002

      13.2    Certification of the Chief Financial Officer pursuant to 18 U.S.C.
              1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act
              of 2002

      23.1    Consent of Kost Forer Gabbay & Kasierer, a Member of Ernst & Young
              Global, Independent Registered Public Accounting Firm (Israel)
              with respect to our Registration Statements on Form F-3 and S-8

      23.2    Consent of Luboshitz Kasierer, an affiliate member of Ernst &
              Young International, Independent Auditors (Israel) with respect to
              our Registration Statements on Form F-3 and S-8

      ------------------

      *    Filed as an exhibit to our Annual Report on Form 20-F for the year
ended December 31, 2000 and incorporated herein by reference.

      **   Filed as an exhibit to our Annual Report on Form 20-F for the year
ended December 31, 2001 and incorporated herein by reference.

      ***  Filed as an exhibit to our Annual Report on Form 20-F for the year
ended December 31, 2002 and incorporated herein by reference.


                                       79
<PAGE>



               RADA ELECTRONIC INDUSTRIES LTD. AND ITS SUBSIDIARY

                        CONSOLIDATED FINANCIAL STATEMENTS

                             AS OF DECEMBER 31, 2004

                            U.S. DOLLARS IN THOUSANDS

                                    INDEX

                                                             PAGE
                                                          ----------
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM       F-2

REPORT OF INDEPENDENT AUDITORS                                F-3

CONSOLIDATED BALANCE SHEETS                                   F-4

CONSOLIDATED STATEMENTS OF OPERATIONS                         F-5

STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY                 F-6

CONSOLIDATED STATEMENTS OF CASH FLOWS                     F-7 - F-8

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS                F-9 - F-31

                                   ----------

                                     - F-1 -
<Page>

[ERNST & YOUNG LOGO]

             REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

                             TO THE SHAREHOLDERS OF

                         RADA ELECTRONIC INDUSTRIES LTD.

     We have audited the accompanying consolidated balance sheets of Rada
Electronic Industries Ltd. (the " Company") and its subsidiary as of December
31, 2004 and 2003 and the related consolidated statements of operations, changes
in shareholders' equity and cash flows for each of the years then ended. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.

     We conducted our audits in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Those standards require that
we plan and perform the audit to obtain reasonable assurance about whether the
financial statements are free of material misstatement. We were not engaged to
perform an audit of the Company's internal control over financial reporting. Our
audit included consideration of internal control over financial reporting as a
basis for designing audit procedures that are appropriate in the circumstances,
but not for the purpose of expressing an opinion on the effectiveness of the
Company's internal control over financial reporting. Accordingly we express no
such opinion. An audit also includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements, assessing
the accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.

     In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position of
the Company and its subsidiary as of December 31, 2004 and 2003, and the results
of its operations and its cash flows for each of the years then ended, in
conformity with U.S. generally accepted accounting principles.

                                              /s/ Kost Forer Gabbay and Kasierer
Tel-Aviv, Israel                                 KOST FORER GABBAY & KASIERER
March 1, 2005                                  A Member of Ernst & Young Global

                                     - F-2 -
<Page>

[ERNST & YOUNG LOGO]

                         REPORT OF INDEPENDENT AUDITORS

                             TO THE SHAREHOLDERS OF

                         RADA ELECTRONIC INDUSTRIES LTD.

     We have audited the accompanying consolidated statement of operations,
changes in shareholders' equity and cash flows of Rada Electronic Industries
Ltd. (the "Company") and its subsidiary for the year ended December 31, 2002.
These financial statements are the responsibility of the Company's management.
Our responsibility is to express an opinion on these financial statements based
on our audit.

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

     In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the results of operations and cash
flows of the Company and its subsidiary for the year ended December 31, 2002, in
conformity with U.S. generally accepted accounting principles

                                            /s/ Luboshitz Kasiserer
Tel-Aviv, Israel                              Luboshitz Kasiserer
June 23, 2003                 An affiliate member of Ernst & Young International

                                     - F-3 -
<Page>

                              RADA ELECTRONIC INDUSTRIES LTD. AND ITS SUBSIDIARY

CONSOLIDATED BALANCE SHEETS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA

<Table>
<Caption>
                                                                                                 DECEMBER 31,
                                                                                             -------------------
                                                                                      NOTE     2004       2003
                                                                                      ----   --------   --------
<S>                                                                                    <C>   <C>        <C>
      ASSETS
CURRENT ASSETS:
Cash and cash equivalents                                                                    $  3,464   $    467
   Trade receivables (net of allowance for doubtful accounts of $ 221 and $ 214, at
      December 31, 2004 and 2003, respectively)                                                 1,643      3,496
   Other receivables and prepaid expenses                                                         208        250
   Costs and estimated earnings in excess of billings on uncompleted contracts          3       1,385        176
   Inventories                                                                          4       1,824        873
                                                                                             --------   --------
TOTAL current assets                                                                            8,524      5,262
                                                                                             --------   --------

LONG-TERM RECEIVABLES AND DEPOSITS:
   Long-term receivables                                                                5         988        990
   Long-term restricted cash                                                                    1,002         --
   Leasing deposits                                                                                94         71
   Severance pay fund                                                                           1,638      1,511
                                                                                             --------   --------
TOTAL long-term receivables and deposits                                                        3,722      2,572
                                                                                             --------   --------

PROPERTY, PLANT AND EQUIPMENT, NET                                                      6       4,283      4,728
                                                                                             --------   --------
OTHER ASSETS:
   Intangible assets, net                                                               7       1,709      1,987
   Deferred charges, net                                                                           59         --
                                                                                             --------   --------
TOTAL other assets                                                                              1,768      1,987
                                                                                             --------   --------

TOTAL assets                                                                                 $ 18,297   $ 14,549
                                                                                             ========   ========

      LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
   Short-term bank credit and loans                                                     8    $     14   $  1,123
   Trade payables                                                                               1,080        640
   Other payables and accrued expenses                                                  9       3,612      3,317
   Deferred revenues                                                                              488      1,062
   Billings in excess of costs and estimated earnings on uncompleted contracts          3       1,065      1,836
                                                                                             --------   --------
TOTAL current liabilities                                                                       6,259      7,978
                                                                                             --------   --------

LONG-TERM LIABILITIES:
   Convertible note                                                                    11       2,346         --
   Long-term loans                                                                      8          --      1,220
   Accrued severance pay                                                                        2,063      2,048
                                                                                             --------   --------

TOTAL long-term liabilities                                                                     4,409      3,268
                                                                                             --------   --------
COMMITMENTS AND CONTINGENT LIABILITIES                                                 10

MINORITY INTERESTS                                                                                397        425
                                                                                             --------   --------

SHAREHOLDERS' EQUITY:                                                                  11
   Share capital-
      Ordinary shares of NIS 0.005 par value - Authorized: 45,000,000 shares at
         December 31, 2004 and 2003; Issued and outstanding: 20,448,364 and
         18,510,716 shares at December 31, 2004 and 2003, respectively                            110        108
   Additional paid-in capital                                                                  61,851     59,139
   Warrants                                                                                     2,223      1,405
   Accumulated deficit                                                                        (56,952)   (57,774)
                                                                                             --------   --------

TOTAL shareholders' equity                                                                      7,232      2,878
                                                                                             --------   --------

TOTAL liabilities and shareholders' equity                                                   $ 18,297   $ 14,549
                                                                                             ========   ========
</Table>

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

                                     - F-4 -
<Page>

                              RADA ELECTRONIC INDUSTRIES LTD. AND ITS SUBSIDIARY

CONSOLIDATED STATEMENTS OF OPERATIONS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA

<Table>
<Caption>
                                                        YEAR ENDED DECEMBER 31,
                                                    ------------------------------
                                             NOTE     2004       2003        2002
                                             ----   --------   --------   --------
<S>                                           <C>   <C>        <C>        <C>
Revenues:                                      15
   Products                                         $ 11,123   $  8,977   $  6,773
   Services                                            3,037      3,338      3,626
                                                    --------   --------   --------

                                                      14,160     12,315     10,399
                                                    --------   --------   --------
Cost of revenues:
   Products                                            9,111      6,933      6,685
   Services                                            1,176      2,659      2,538
                                                    --------   --------   --------

                                                      10,287      9,592      9,223
                                                    --------   --------   --------

Gross profit                                           3,873      2,723      1,176
                                                    --------   --------   --------

Operating expenses:
   Research and development                               --         --        122
   Marketing and selling                                 738        781        808
   General and administrative                          2,116      1,917      2,281
                                                    --------   --------   --------

TOTAL operating expenses                               2,854      2,698      3,211
                                                    --------   --------   --------

Operating income (loss)                                1,019         25     (2,035)
Financial income (expenses), net              13a       (248)       708       (364)
Other income (expenses), net                  13b         23         (2)      (290)
                                                    --------   --------   --------

                                                         794        731     (2,689)
Minority interests in losses of subsidiary                28         27        206
                                                    --------   --------   --------

Net income (loss)                              16   $    822   $    758   $ (2,483)
                                                    ========   ========   ========

Net income (loss) per share:

   Basic net income (loss) per share                $   0.04   $   0.04   $  (0.15)
                                                    ========   ========   ========

   Diluted net income (loss) per share              $   0.03   $   0.04   $  (0.15)
                                                    ========   ========   ========
</Table>

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

                                     - F-5 -
<Page>

                              RADA ELECTRONIC INDUSTRIES LTD. AND ITS SUBSIDIARY

STATEMENTS OF CHANGES IN SHARHOLDERS' EQUITY
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS, EXCEPT SHARE DATA

<Table>
<Caption>
                                         NUMBER OF             ADDITIONAL                               TOTAL
                                         ORDINARY     SHARE     PAID-IN                ACCUMULATED   SHAREHOLDERS'
                                          SHARES     CAPITAL    CAPITAL     WARRANTS     DEFICIT       EQUITY
                                        ----------   -------   ----------   --------   -----------   -------------
<S>                                     <C>          <C>        <C>          <C>        <C>            <C>
Balance at January 1, 2002              13,816,839   $   103    $ 56,646     $    --    $ (56,049)     $    700

   Issuance of Ordinary shares and
      warrants, net *)                   1,938,775         2         792          41           --           835
   Conversion of loan into Ordinary
      shares and warrants                2,755,102         3       1,347          83           --         1,433
   Net loss                                     --        --          --          --       (2,483)       (2,483)
                                        ----------   -------    --------     -------    ---------      --------

Balance at December 31, 2002            18,510,716       108      58,785         124      (58,532)          485

   Adjustment of accrual for issuance
      expenses                                  --        --         354          --           --           354
   Fair value of warrants issued in
      connection with settlement of
      debt, net *)                              --        --          --       1,267           --         1,267
   Fair value of warrants issued to
      suppliers                                 --        --          --          14           --            14
   Net income                                   --        --          --          --          758           758
                                        ----------   -------    --------     -------    ---------      --------

Balance at December 31, 2003            18,510,716       108      59,139       1,405      (57,774)        2,878

   Issuance of Ordinary shares and
      warrants, net *)                   1,864,313         2       2,482         818           --         3,302
   Beneficial conversion feature
      on convertible note                       --        --         180          --           --           180
   Exercise of options                      73,335    **) --          50          --           --            50
   Net income                                   --        --          --          --          822           822

                                        ----------   -------    --------     -------    ---------      --------

Balance at December 31, 2004            20,448,364   $   110    $ 61,851     $ 2,223    $ (56,952)     $  7,232
                                        ==========   =======    ========     =======    =========      ========
</Table>

*)   Net of issuance expenses of approximately $ 95, $ 38 and $ 115 for the
     years ended December 31, 2004, 2003 and 2002, respectively.
**)  Less than $ 1.

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

                                     - F-6 -
<Page>

                              RADA ELECTRONIC INDUSTRIES LTD. AND ITS SUBSIDIARY

CONSOLIDATED STATEMENTS OF CASH FLOWS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS

<Table>
<Caption>
                                                                                       YEAR ENDED DECEMBER 31,
                                                                                   ------------------------------
                                                                                     2004       2003       2002
                                                                                   --------   --------   --------
<S>                                                                                <C>        <C>        <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
   Net income (loss)                                                               $    822   $    758   $ (2,483)
   Adjustments required to reconcile net income (loss) to net cash provided by
      (used in) operating activities:
      Depreciation and amortization                                                   1,066      2,072      2,388
      Loss (gain) on extinguishment of debt                                              --     (1,013)        83
      Provision of long-term receivable                                                  --         --        290
      Stock compensation expense - fair value of warrants issued to suppliers            --         14         --
      Minority interests in losses of subsidiary                                        (28)       (27)      (206)
      Accrued interest and translation differences on long-term receivables               2        (97)       (40)
      Amortization expenses on convertible note                                         106         --         --
      Capital loss on property, plant and equipment                                      16         --         --
      Decrease (increase) in trade receivables, net                                   1,853     (1,664)    (1,015)
      Decrease (increase) in other receivables and prepaid expenses                      42       (157)       (26)
      Decrease (increase) in costs and estimated earnings in excess of billings,
         net                                                                         (1,980)     1,085        460
      Decrease (increase) in inventories                                               (951)       204        539
      Increase (decrease) in trade payables                                             440          5       (162)
      Increase in other payables and accrued expenses                                   295        722         63
      Decrease in deferred revenues                                                    (574)      (709)      (592)
      Accrued severance pay, net                                                       (112)      (172)       276
                                                                                   --------   --------   --------

Net cash provided by (used in) operating activities                                     997      1,021       (425)
                                                                                   --------   --------   --------

CASH FLOWS FROM INVESTING ACTIVITIES:
   Investment in long- term restricted cash                                          (1,002)        --         --
   Purchase of property, plant and equipment                                           (349)       (49)       (85)
   Proceeds from sale of property and equipment                                          --         --         94
   Repayment of loans granted to employees                                               --         --         20
   Investments in leasing deposits                                                      (23)        (1)       (70)
                                                                                   --------   --------   --------

Net cash used in investing activities                                                (1,374)       (50)       (41)
                                                                                   --------   --------   --------

CASH FLOWS FROM FINANCING ACTIVITIES:
   Proceeds from issuance of shares, net                                              2,484         --        835
   Proceeds from issuance of convertible note, net                                    2,351         --         --
   Decrease in short-term bank credits and in loans, net                             (2,329)    (1,074)      (223)
   Issuance of warrants                                                                 818         --         --
   Exercise of options                                                                   50         --         --
   Proceeds from issuance of loan to a related party                                     --         --        550
   Repayment of loan to a related party                                                  --         --       (200)
                                                                                   --------   --------   --------

Net cash provided by (used in) financing activities                                   3,374     (1,074)       962
                                                                                   --------   --------   --------

Increase (decrease) in cash and cash equivalents                                      2,997       (103)       496
Cash and cash equivalents at the beginning of the year                                  467        570         74
                                                                                   --------   --------   --------

Cash and cash equivalents at the end of the year                                   $  3,464   $    467   $    570
                                                                                   ========   ========   ========
</Table>

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

                                     - F-7 -
<Page>

                              RADA ELECTRONIC INDUSTRIES LTD. AND ITS SUBSIDIARY

CONSOLIDATED STATEMENTS OF CASH FLOWS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS

<Table>
<Caption>
                                                                  YEAR ENDED DECEMBER 31,
                                                                 -------------------------
                                                                  2004     2003      2002
                                                                 -----   -------   -------
<S>                                                              <C>     <C>       <C>
NON-CASH TRANSACTIONS:
   Conversion of shareholder's loan into Ordinary shares and
      warrants                                                   $  --   $    --   $ 1,350
                                                                 =====   =======   =======
   Fair value of warrants issued in connection with settlement
      of debt                                                    $  --   $ 1,305   $    --
                                                                 =====   =======   =======

   Adjustment of accrual for issuance expenses                   $  --   $   354   $    --
                                                                 =====   =======   =======

SUPPLEMENTAL DISCLOSURES OF CASH FLOW ACTIVITIES:
   Net cash paid during the year for:
      Income taxes                                               $   3   $     5   $     7
                                                                 =====   =======   =======

      Interest                                                   $ 290   $   240   $   326
                                                                 =====   =======   =======
</Table>

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

                                     - F-8 -
<Page>

                              RADA ELECTRONIC INDUSTRIES LTD. AND ITS SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA

NOTE 1:-  GENERAL

          a.   RADA Electronic Industries Ltd., an Israeli corporation ("the
               Company"), is engaged in the development, manufacture and sale of
               Automated Test Equipment ("ATE") products, avionics equipment and
               aviation data acquisition and debriefing systems.

          b.   As reflected in the consolidated financial statements, as of
               December 31, 2004, the Company had an accumulated deficit of $
               56,952. During 2004, the Company concluded a private placement of
               1,800,000 Ordinary shares and issued convertible notes to
               investors in the amount of approximately $ 5,800 (see Note 11).
               Management believes that the abovementioned round of financing
               and anticipated cash flows from operations will enable the
               Company to finance its operations at least through December 31,
               2005.

          c.   The Company operates a test and repair shop using its ATE
               products in Beijing, China through its 80% owned Chinese
               subsidiary, Beijing Huari Aircraft Components Maintenance and
               Services Co. Ltd. ("CACS" or "subsidiary"). CACS was established
               with a third party, which owns the remaining 20% equity interest.

          d.   As for major customers, see Note 15.

          e.   In 2003, the Company changed the estimated useful life of the
               remaining intangible assets associated with its Aircraft Test
               Systems Programs Sets ("TPSs") from five to ten years. The effect
               of change in estimate on the net income and net income per share
               for the years ended December 31, 2004 and 2003 resulted in an
               increase of $ 221 (or $ 0.01 per share) and $ 136 (or $ 0.01 per
               share), respectively.

NOTE 2:-  SIGNIFICANT ACCOUNTING POLICIES

          The consolidated financial statements have been prepared in accordance
          with U.S. generally accepted accounting principles. The significant
          accounting policies followed in the preparation of the financial
          statements, applied on a consistent basis, are as follows:

          a.   Use of estimates:

               The preparation of financial statements in conformity with U.S.
               generally accepted accounting principles requires management to
               make estimates and assumptions that affect the reported amounts
               in the financial statements and accompanying notes. Actual
               results could differ from those estimates.

                                     - F-9 -
<Page>

                              RADA ELECTRONIC INDUSTRIES LTD. AND ITS SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS

NOTE 2:-  SIGNIFICANT ACCOUNTING POLICIES (CONT.)

          b.   Financial statements in U.S. dollars:

               Most of the revenues of the Company and its subsidiary are
               generated in U.S. dollars ("dollar"). In addition, a substantial
               portion of the costs of the Company and its subsidiary is
               incurred in dollars. The Company's management believes that the
               dollar is the primary currency of the economic environment in
               which the Company operates. Thus, the functional and reporting
               currency of the Company is the dollar.

               Accordingly, monetary accounts maintained in currencies other
               than the dollar are remeasured into U.S. dollars in accordance
               with Statement of the Financial Accounting Standard Board No. 52,
               "Foreign Currency Translation" ("SFAS No. 52"). All transaction
               gains and losses of the remeasured monetary balance sheet items
               are reflected in the statement of operations as financial income
               or expenses, as appropriate. The representative exchange rate at
               December 31, 2004 was U.S. $ 1.00 = NIS 4.308 (December 31, 2003
               - NIS 4.379).

          c.   Basis of consolidation:

               The consolidated financial statements include the accounts of the
               Company and its subsidiary. Inter-company transactions and
               balances have been eliminated upon consolidation.

          d.   Cash equivalents and restricted cash:

               All highly liquid investments that are readily convertible to
               cash and are not restricted as to withdrawal or use and the
               period to maturity of which did not exceed three months at time
               of deposit, are considered cash equivalents.

               Restricted cash is invested in a long-term bank deposit, which is
               used as security for the Company's guarantees to customers. The
               deposit is in U.S. dollars and bears interest at an average rate
               of 2.3%.

          e.   Inventories:

               Inventories are stated at the lower of cost or market value.
               Inventory write-offs are provided to cover risks arising from
               slow-moving items, excess inventories, and for market prices
               lower than cost. As for write-offs included in these financial
               statements, see Note 4.

               Cost is determined as follows:

               Raw materials and components - using the "first-in, first-out"
               cost method.

               Work in progress and finished goods - represents the cost of
               manufacturing with the addition of allocable indirect
               manufacturing costs.

               Amounts related to long-term contracts as determined by the
               percentage of completion method of accounting are recorded as
               "Costs and estimated earnings in excess of billings."

                                    - F-10 -
<Page>

                              RADA ELECTRONIC INDUSTRIES LTD. AND ITS SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS

NOTE 2:-  SIGNIFICANT ACCOUNTING POLICIES (CONT.)

          f.   Property and equipment:

               Property and equipment are stated at cost, net of accumulated
               depreciation. Depreciation is calculated by the straight-line
               method over the estimated useful lives of the assets. Annual
               rates of depreciation are as follows:

<Table>
<Caption>
                                                     %
                                                -----------
<S>                                             <C>
               Factory and other buildings        2.5 - 4
               Machinery and equipment          10 - 15, 33
               Office furniture and equipment      6 - 15
</Table>

               Leasehold improvements are amortized over the shorter of the
               estimated useful life or the lease period.

               Assets in respect of which investment grants have been received,
               are presented at cost less the related grant amount. Depreciation
               is based on net cost.

          g.   Intangible assets:

               Capitalized software costs are amortized by the greater of the
               amount computed using the: (i) ratio of current gross revenues
               from sales of the software to the total of current and
               anticipated future gross revenues from sales of that software, or
               (ii) the straight-line method over the estimated useful life of
               the product. The Company assesses the recoverability of these
               intangible assets on a regular basis by determining whether the
               amortization of the asset over its remaining life can be
               recovered through undiscounted future operating cash flows from
               the specific software product sold. As for impairment charges
               included in these financial statements, see Note 7.

          h.   Impairment of long-lived assets:

               The Company's long-lived assets are reviewed for impairment in
               accordance with Statement of Financial Accounting Standards No.
               144" Accounting for the Impairment or Disposal of Long-Lived
               Assets" ("SFAS No. 144") whenever events or changes in
               circumstances indicate that the carrying amount of the assets may
               not be recoverable. Recoverability of assets to be held and used
               is measured by a comparison of the carrying amount of an assets
               to the future undiscounted cash flows expected to be generated by
               the assets. If such assets are considerd to be impaired, the
               impairment to be recognized is measured by the amount by which
               the carrying amount of the assets exceeds the fair value of the
               assets. As for write-down charges included in these financial
               statements, see Note 6.

          i.   Research and development costs:

               Statement of Financial Accounting Standards No. 86, "Accounting
               for the Costs of Computer Software to be Sold, Leased or
               Otherwise Marketed", ("SFAS No. 86") requires capitalization of
               certain software development, costs subsequent to the
               establishment of technological feasibility. Based on the
               Company's product development process, technological feasibility
               is established upon completion of a working model.

                                    - F-11 -
<Page>

                              RADA ELECTRONIC INDUSTRIES LTD. AND ITS SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS

NOTE 2:-  SIGNIFICANT ACCOUNTING POLICIES (CONT.)

               Research and development costs incurred in the process of
               developing product masters, product enhancements and the
               Company's Test System Programs Sets ("TPS") software library,
               integrated with the Company's test station, are charged to
               expenses as incurred.

               Costs incurred by the Company between completion of the working
               model and the point at which the product is ready for general
               release, have been capitalized.

          j.   Income taxes:

               The Company accounts for income taxes in accordance with
               Statement of Financial Accounting Standard No. 109, "Accounting
               for Income Taxes" ("SFAS 109"). This statement prescribes the use
               of the liability method whereby deferred tax assets and liability
               account balances are determined based on differences between
               financial reporting and tax based assets and liabilities and are
               measured using the enacted tax rates and laws that will be in
               effect when the differences are expected to reverse. The Company
               provides a valuation allowance, if necessary, to reduce deferred
               tax assets to their estimated realizable value.

          k.   Severance pay:

               The Company's liability for severance pay is calculated pursuant
               to Israeli severance pay law generally based on the most recent
               salary of the employees multiplied by the number of years of
               employment, as of the balance sheet date. Employees are entitled
               to one month's salary for each year of employment or a portion
               thereof. The Company's liability for all of its Israeli employees
               is partly provided by monthly deposits for insurance policies
               and/or pension funds and by an accrual. The value of these
               policies is recorded as an asset in the Company's balance sheet.
               The deposited funds of the Company's employees include profits
               accumulated up to the balance sheet date. The deposited funds may
               be withdrawn only upon the fulfillment of the obligation pursuant
               to Israeli severance pay law or labor agreements. The value of
               the deposited funds is based on the cash surrendered value of
               these policies, and includes immaterial profits.

               Severance expenses recorded in the statement of operations is net
               of interest and other income accumulated in the deposits.
               Severance expenses for the years ended December 31, 2004, 2003
               and 2002 amounted to $ 76, $ 132 and $ 541, respectively.

          l.   Fair value of financial instruments:

               The following methods and assumptions were used by the Company in
               estimating fair value and disclosures for financial instruments.

               The carrying amount of cash and cash equivalents, trade
               receivables, short-term bank credit, long-term deposits and trade
               payables approximate their fair value due to the short-term
               maturity of these instruments.

               Long-term loans and convertible notes are estimated by
               discounting the future cash flows using current interest rates
               for loans of similar terms and maturities. The carrying amount of
               the long-term loans and convertible notes approximate their fair
               value.

                                    - F-12 -
<Page>

                              RADA ELECTRONIC INDUSTRIES LTD. AND ITS SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS

NOTE 2:-  SIGNIFICANT ACCOUNTING POLICIES (CONT.)

          m.   Concentrations of credit risk:

               Financial instruments that potentially subject the Company to
               concentrations of credit risk consist principally of cash and
               cash equivalents, long-term deposit, trade receivables and
               long-term receivables.

               The Company's cash and cash equivalents and long-term deposit are
               mainly held in U.S. dollars with major banks in Israel.
               Management believes that the financial institutions that hold the
               Company's investments are financially sound and, accordingly,
               minimal credit risk exists with respect to these investments.

               The Company's trade receivables are derived from sales to large
               and solid organizations located mainly in the United States,
               Europe and Israel. The Company performs ongoing credit
               evaluations of its customers and to date has not experienced any
               material losses. An allowance for doubtful accounts is determined
               with respect to these amounts that the Company has determined to
               be doubtful of collection. The allowance is computed for specific
               debts and the collectibility is determined based upon the
               Company's experience.

               The Company granted loans in prior years to its former CEO and a
               former officer amounting to approximately $ 983 as of December
               31, 2004 and 2003. These loans are unsecured and the Company is
               currently in litigation with these officers regarding such loans.
               If not paid, the Company will incur a loss equal to the amount of
               the loans.

               The Company has no off-balance sheet credit risks.

          n.   Warranty:

               In connection with the sale of its products, the Company provides
               product warranties for periods between one to two years. Based on
               past experience and engineering estimates, the liability from
               these warranties is immaterial at balance sheet date.

          o.   Share based compensation:

               The Company accounts for employee stock based compensation under
               the intrinsic value model in accordance with Accounting
               Principles Board Opinion No. 25, "Accounting for Stock Issued to
               Employees" ("APB 25") and FASB Interpretation No. 44, "Accounting
               for Certain Transactions Involving Stock Compensation" ("FIN No.
               44"). In accordance with SFAS No. 123, "Accounting for
               Stock-Based Compensation" ("SFAS No. 123"), the Company discloses
               pro forma data assuming the group had accounted for employee
               stock option grants using the fair value-based method defined in
               SFAS No. 123.

               Pro forma information regarding the Company's net loss and net
               loss per share is required by SFAS No. 123 and has been
               determined as if the Company had accounted for its employee stock
               options under the fair value method prescribed by SFAS No. 123.
               The following table illustrates the effect on net loss and net
               loss per share if the Company had applied the fair value
               recognition provisions of SFAS No. 123 to stock-based employee
               compensation.

                                    - F-13 -
<Page>

                              RADA ELECTRONIC INDUSTRIES LTD. AND ITS SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS

NOTE 2:-  SIGNIFICANT ACCOUNTING POLICIES (CONT.)

<Table>
<Caption>
                                                                  YEAR ENDED DECEMBER 31,
                                                                ---------------------------
                                                                 2004      2003      2002
                                                                -------   ------   --------
<S>                                                             <C>       <C>      <C>
               Net income (loss), as reported                   $  822    $  758   $ (2,483)
               Add: Stock-based employee compensation
                  included in reported net income (loss)            --        --         --
               Deduct: Total stock-based employee
                  compensation expense under fair value based
                  methods                                          (73)      (58)        --
                                                                ------    ------   --------

               Pro forma net income (loss)                      $  749    $  700   $ (2,483)
                                                                ======    ======   ========

               Basic and diluted net income (loss) per share:
               Basic net income (loss) per share as reported    $ 0.04    $ 0.04   $  (0.15)
               Pro forma basic net income (loss) per share      $ 0.04    $ 0.04   $  (0.15)
               Basic net income (loss) per share as reported    $ 0.03    $ 0.04   $  (0.15)
               Pro forma basic net income (loss) per share      $ 0.03    $ 0.04   $  (0.15)
</Table>

               The fair value for options granted in 2004, 2003 and 2002 was
               estimated at the date of grant using a Black-Scholes options
               pricing model with the following weighted average assumptions:

<Table>
<Caption>
                                           YEAR ENDED DECEMBER 31,
                                         ---------------------------
                                          2004      2003       2002
                                         -------   -------   -------
<S>                                      <C>       <C>       <C>
               Expected life of option   2 years   2 years   2 years
               Dividend yield               0%        0%        0%
               Expected volatility          68%       31%       24%
               Risk-free interest rate     2.6%      1.0%      2.0%
</Table>

               The Company applies SFAS No. 123 and Emerging Issues Task Force
               No. 96-18 "Accounting for Equity Instruments That Are Issued to
               Other Than Employees for "Acquiring, or in Conjunction with
               Selling, Goods or Services" ("EITF 96-18"), with respect to
               options and warrants issued to non-employees. SFAS No. 123
               requires the use of option valuation models to measure the fair
               value of the options and warrants at the measurement date.

          p.   Revenue recognition:

               The Company generates revenues mainly from the sale of products
               and from long-term fixed price contracts for ATE, avionics and
               ground debriefing systems. In addition, the Company leases ATE
               and provides manufacturing, development and product support
               services.

                                    - F-14 -
<Page>

                              RADA ELECTRONIC INDUSTRIES LTD. AND ITS SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS

NOTE 2:-  SIGNIFICANT ACCOUNTING POLICIES (CONT.)

               PRODUCT REVENUES:

               The Company recognizes revenue from sales of products and
               aircraft spare parts in accordance with Staff Accounting Bulletin
               ("SAB") No. 104, "Revenue Recognition". Product revenue is
               recognized when there is persuasive evidence of an arrangement,
               the fee is fixed or determinable, delivery of the product to the
               customer has occurred and the Company has determined that
               collection of the fee is probable. If the product requires
               specific customer acceptance, revenue is deferred until customer
               acceptance occurs or the acceptance provisions lapse, unless the
               Company can objectively and reliably demonstrate that the
               criteria specified in the acceptance provisions are satisfied.

               Revenues from certain long-term fixed price contracts are
               recognized in accordance with Statement of Position No. 81-1,
               "Accounting for Performance of Construction - Type and Certain
               Production - Type Contracts" ("SOP 81-1"), using contract
               accounting on a percentage of completion method in accordance
               with the "Input Method". The percentage of completion is
               determined based on the ratio of actual costs incurred to total
               costs estimated to be incurred over the duration of the contract.
               With regard to contracts for which a loss is anticipated, a
               provision is made for the entire amount of the estimated loss at
               the time such loss becomes evident. As of December 31, 2004, the
               estimated losses identified are $ 392. Estimated gross profit or
               loss from long-term contracts may change due to changes in
               estimates resulting from differences between actual performance
               and original forecasts. Such changes in estimated gross profit or
               loss are recorded in results of operations when they are
               reasonably determinable by management, on a cumulative catch-up
               basis.

               The Company believes that the use of the percentage of completion
               method is appropriate as the Company has the ability to make
               reasonably dependable estimates of the extent of progress towards
               completion, contract revenues and contract costs. In addition,
               contracts executed include provisions that clearly specify the
               enforceable rights regarding services to be provided and received
               by the parties to the contracts, the consideration to be
               exchanged and the manner and terms of settlement. In all cases
               the Company expects to perform its contractual obligations and
               its licensees are expected to satisfy their obligations under the
               contract.

               According to SOP 81-1, costs that are incurred and are directly
               associated with a specific anticipated contract are being
               deferred, subject to evaluation of their probable recoverability,
               and recorded as unbilled contract costs.

               Revenues from certain arrangements may include multiple elements
               within a single contract. The Company's accounting policy
               complies with the provisions of Emerging Issues Task Force Issue
               00-21, "Revenue Arrangements with Multiple Deliverables" ("EITF
               00-21"), relating to the separation of multiple deliverables into
               individual accounting units with determinable fair value. The
               Company's arrangements are accounted for as one unit of
               accounting.

                                    - F-15 -
<Page>

                              RADA ELECTRONIC INDUSTRIES LTD. AND ITS SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS, EXCEPT SHARE DATA

NOTE 2:- SIGNIFICANT ACCOUNTING POLICIES (CONT.)

               SERVICE REVENUES:

               Revenues from services are recognized as the services are
               performed.

               Revenue under operating leases of equipment are recognized
               ratably over the lease period, in accordance with Statement of
               Financial Accounting Standard No. 13, "Accounting for Leases"
               ("SFAS No. 13").

               Deferred revenues include unearned amounts received under
               services contracts, and amounts received from customers but not
               yet recognized as revenues.

          q.   Basic and diluted net income (loss) per share:

               Basic net income (loss) per share is computed based on the
               weighted average number of Ordinary shares outstanding during
               each year. Diluted net income (loss) per share is computed based
               on the weighted average number of Ordinary shares outstanding
               during each year, plus dilutive potential Ordinary shares
               considered outstanding during the year in accordance with
               Statement of Financial Accounting Standards No. 128, "Earnings
               Per Share". Options and warrants to purchase 16,005,112,
               14,862,237 and 13,718,037 Ordinary shares have been excluded from
               the computation of diluted net income (loss) per share for the
               years ended December 31, 2004, 2003 and 2002, respectively,
               because their effect is anti-dilutive for all periods presented.

          r.   Recently issued accounting pronouncements:

               SFAS NO. 123 (REVISED 2004) SHARE-BASED PAYMENT

               On December 16, 2004, the FASB issued Statement No. 123 (revised
               2004), Share-Based Payment ("Statement 123(R)"), which is a
               revision of FASB Statement No. 123, Accounting for Stock-Based
               Compensation ("Statement 123"). Generally, the approach in
               Statement 123(R) is similar to the approach described in
               Statement 123. However, Statements 123 permitted, but not
               required, share-based payments to employees to be recognized
               based on their fair values while Statement 123(R) requires all
               share-based payments to employees to be recognized based on their
               fair values. Statement 123(R) also revises, clarifies and expands
               guidance in several areas, including measuring fair value,
               classifying an award as equity or as a liability and attributing
               compensation cost to reporting periods. The new standard will be
               effective for the Company in the first interim period beginning
               after June 15, 2005 (July 1, 2005 for the Company). The Company
               does not expect this Statement to have a material effect on the
               Company's financial statements or its results of operations in
               future periods.

                                    - F-16 -
<Page>

                              RADA ELECTRONIC INDUSTRIES LTD. AND ITS SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS

NOTE 2:- SIGNIFICANT ACCOUNTING POLICIES (CONT.)

               FAS 151 INVENTORY COSTS - AN AMENDMENT OF ARB 43, CHAPTER 4:

               In November 2004, the FASB issued Statement of Financial
               Accounting Standard No. 151, "Inventory Costs, an Amendment of
               ARB No. 43, Chapter 4". ("SFAS 151"). SFAS 151 amends Accounting
               Research Bulletin ("ARB") No. 43, Chapter 4, to clarify that
               abnormal amounts of idle facility expense, freight handling costs
               and wasted materials (spoilage) should be recognized as
               current-period charges. In addition, SFAS 151 requires that the
               allocation of fixed production overheads to the costs of
               conversion be based on the normal capacity of the production
               facilities. SFAS 151 is effective for inventory costs incurred
               during fiscal years beginning after June 15, 2005 (January 1,
               2006 for the Company). The provisions of this Statement shall be
               applied prospectively. The Company does not expect this Statement
               to have a material effect on its financial statements or its
               results of operations.

               FAS 153 EXCHANGES OF NONMONETARY ASSETS - AN AMENDMENT OF APB
               OPINION NO. 29:

               In December 2004, the FASB issued Statement of Financial
               Accounting Standard No. 153, EXCHANGES OF NONMONETARY ASSETS, AN
               AMENDMENT OF APB OPINION NO. 29 ("SFAS 153"). The guidance in APB
               Opinion No. 29, ACCOUNTING FOR NONMONETARY TRANSACTIONS ("APB
               29"), is based on the principle that exchanges of nonmonetary
               assets should be measured based on the fair value of the assets
               exchanged. APB 29 includes certain exceptions to that principle.
               SFAS 153 amends APB 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 a commercial substance. 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.
               SFAS 153 is effective for nonmonetary assets exchanges occurring
               in fiscal periods beginning after June 15, 2005. The Company does
               not expect that the adoption of SFAS 153 will have a material
               effect on its financial position or results of operations.

                                    - F-17 -
<Page>

                              RADA ELECTRONIC INDUSTRIES LTD. AND ITS SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS

NOTE 3:-  CONTRACTS IN PROGRESS

          Amounts included in the financial statements, which relate to costs
          and estimated earnings in excess of billings on uncompleted contracts
          are classified as current assets. Billings in excess of costs and
          estimated earnings on uncompleted contracts are classified as current
          liabilities. Summarized below are the components of the amounts:

          a.   Costs and estimated earnings in excess of billings on uncompleted
               contracts:

<Table>
<Caption>
                                                             DECEMBER 31,
                                                         -----------------
                                                           2004       2003
                                                         -------   -------
<S>                                                      <C>       <C>
               Costs incurred on uncompleted contracts   $ 5,774   $   862
               Estimated earnings                             50       324
                                                         -------   -------

                                                           5,824     1,186
               Less - billings and progress payments       4,439     1,010
                                                         -------   -------

                                                         $ 1,385   $   176
                                                         =======   =======
</Table>

          b.   Billings in excess of costs and estimated earnings on uncompleted
               contracts:

<Table>
<Caption>
                                                             DECEMBER 31,
                                                         -------------------
                                                           2004       2003
                                                         --------   --------
<S>                                                      <C>        <C>
               Costs incurred on uncompleted contracts   $  4,336   $  3,711
               Estimated earnings                           1,454      1,019
                                                         --------   --------

                                                            5,790      4,730
               Less - billings and progress payments        6,855      6,566
                                                         --------   --------

                                                         $ (1,065)  $ (1,836)
                                                         ========   ========
</Table>

NOTE 4:-  INVENTORIES

<Table>
<Caption>
                                           DECEMBER 31,
                                         ---------------
                                           2004     2003
                                         -------   -----
<S>                                      <C>       <C>
          Raw materials and components   $ 1,178   $ 668
          Work in progress                   447     112
          Finished goods                     199      93
                                         -------   -----

                                         $ 1,824   $ 873
                                         =======   =====
</Table>

          Write-down of inventories for the years ended December 31, 2004, 2003
          and 2002 amounted to $ 0, $ 0 and $ 623, respectively. The write-down
          in 2002 was due to excess and slow moving inventories and was included
          in cost of revenues.

                                    - F-18 -
<Page>

                              RADA ELECTRONIC INDUSTRIES LTD. AND ITS SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS

NOTE 5:-  LONG-TERM RECEIVABLES

<Table>
<Caption>
                                                      DECEMBER 31,
                                                     -------------
                                                      2004    2003
                                                     -----   -----
<S>                                                  <C>     <C>
          Loan to former chief executive officer *)  $ 705   $ 705
          Loan to a former officer *)                  278     278
          Loans to employees                             5       7
                                                     -----   -----

                                                     $ 988   $ 990
                                                     =====   =====
</Table>

        *) See also Note 10a.

NOTE 6:-  PROPERTY, PLANT AND EQUIPMENT, NET

<Table>
<Caption>
                                                  DECEMBER 31,
                                               -------------------
                                                 2004       2003
                                               --------   --------
<S>                                            <C>        <C>
          Cost:
             Factory building                  $  1,940   $  1,940
             Other building                       1,042      1,042
             Machinery and equipment             13,321     13,044
             Office furniture and equipment         512        459
             Leasehold improvements                  23         20
                                               --------   --------

                                                 16,838     16,505
                                               --------   --------
          Accumulated depreciation:
             Factory building                     1,203      1,132
             Other building                         219        175
             Machinery and equipment             10,779     10,145
             Office furniture and equipment         334        305
             Leasehold improvements                  20         20
                                               --------   --------

                                                 12,555     11,777
                                               --------   --------

          Depreciated cost                     $  4,283   $  4,728
                                               ========   ========
</Table>

          The Company's factory building in Beit-She'an, Israel, is located on
          land leased from the Israel Lands Administration until the year 2034.

          Depreciation expenses were $ 778, $ 932 and $ 918 for the years ended
          December 31, 2004, 2003 and 2002, respectively. Write-down of property
          and equipment, which is not in use by the Company, was $ 0, $ 0 and $
          490 for the years ended December 31, 2004, 2003 and 2002,
          respectively. The write-downs were included in cost of revenues.

          As for charges, see Note 10e.

                                    - F-19 -
<Page>

                              RADA ELECTRONIC INDUSTRIES LTD. AND ITS SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS

NOTE 7:-  INTANGIBLE ASSETS, NET

<Table>
<Caption>
                                                  DECEMBER 31,
                                               -----------------
                                                 2004       2003
                                               -------   -------
<S>                                            <C>       <C>
          Test Systems Programs Sets:
             Cost                              $ 8,275   $ 8,275
             Less - accumulated amortization     6,566     6,288
                                               -------   -------

             Amortized cost                    $ 1,709   $ 1,987
                                               =======   =======
</Table>

          Amortization expenses were $ 278, $ 382 and $ 730 for the years ended
          December 31, 2004, 2003 and 2002, respectively. The expected
          amortization expenses in the next five years are approximately as
          follows:

<Table>
<S>                      <C>
          2005           $   275
          2006               275
          2007               275
          2008               177
          2009               177
                         -------

                         $ 1,179
                         =======
</Table>

          Impairment of intangible assets was $ 0, $ 758 and $ 251 for the years
          ended December 31, 2004, 2003 and 2002, respectively included in cost
          of revenues. The impairment was recorded in prior years since the
          Company did not anticipate future revenues on specific Test Systems
          Program Sets ("TPSs"). The weighted average useful life of the
          intangible assets is six years.

NOTE 8:-  SHORT-TERM BANK CREDIT AND LOANS

<Table>
<Caption>
                                                                         DECEMBER 31,
                                                                        --------------
                                                                        2004     2003
                                                                        ----   -------
<S>                                                                     <C>    <C>
          Short-term:
             Current maturities of long-term loan in U.S. dollars (1)   $ --   $   180
             Short-term bank credit in NIS (2)                            14       943
                                                                        ----   -------

                                                                        $ 14   $ 1,123
                                                                        ====   =======

          Long-term:
             Loans in U.S. dollars (1)                                  $ --   $ 1,220
                                                                        ====   =======
</Table>

          (1)  The interest rate at December 31, 2003 is 4.25%-5.13%. The
               weighted average interest rate as of December 31, 2003 - 4.25 %.

          (2)  The interest rate at December 31, 2004 is 11.7% (December 31,
               2003 - 8%).

          During 2003, the Company restructured a portion of its debt with the
          banks (see Note 11c).

          The total authorized credit line of the Company at December 31, 2004
          is $4,123.

          As for collateral, see Note 10e.

                                    - F-20 -
<Page>

                              RADA ELECTRONIC INDUSTRIES LTD. AND ITS SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS

NOTE 9:-  OTHER PAYABLES AND ACCRUED EXPENSES

<Table>
<Caption>
                                                                      DECEMBER 31,
                                                                   -----------------
                                                                     2004      2003
                                                                   -------   -------
<S>                                                                <C>       <C>
          Payroll and related accruals                             $   969   $   860
          Provision for legal proceedings                              567       748
          Accrued royalties                                            679       644
          Accrued commissions                                          480       491
          Contracts in progress - provision for estimated losses       392        --
          Other                                                        525       574
                                                                   -------   -------

                                                                   $ 3,612   $ 3,317
                                                                   =======   =======
</Table>

NOTE 10:- COMMITMENTS AND CONTINGENT LIABILITIES

          a.   As of December 31, 2004, the Company was a party to various legal
               proceedings, including the following:

               1.   In June 1998, the Company's Board of Directors accepted the
                    resignation of the Company's former CEO. In December 1998,
                    the former CEO commenced legal proceedings against the
                    Company in the Tel Aviv Labor Court, claiming approximately
                    $ 500 in respect of salary, severance pay, vacation pay and
                    other fringe benefits. The former CEO also claimed that a
                    personal loan that was provided to him by the Company had
                    been forgiven and that the Company is to bear the tax in
                    respect thereof. In May 2001, an additional claim of
                    approximately $ 230 was filed by the former CEO against the
                    Company in the Tel-Aviv District Court for damages allegedly
                    caused to him as a result of attachment imposed on certain
                    of his assets by the Company that was subsequently cancelled
                    by the Court. In addition, in 2001, the Company filed a
                    claim against a former director. In the event the former
                    CEO's claim in the Labor Court is accepted by the Court,
                    damages in the amount of $ 250 should be covered by the
                    former director. The Company filed additional lawsuits
                    against the former CEO and a former director in the amount
                    of $ 250 for funds that they allegedly transferred from the
                    Company to a third party. In September 1999, the Company
                    filed a lawsuit against the former CEO and the former
                    director with the District Court of Tel Aviv in the amount
                    of $ 1,400 for damages caused to the Company in the purchase
                    of a subsidiary and negligence of management. In August
                    2000, the Company filed an additional lawsuit against the
                    former CEO in the amount of approximately $ 460 regarding
                    the repayment of the loan provided to him. Management
                    believes based on its legal counsel advice that the Company
                    has a valid defense against all claims made against it.

               2.   In 1999 and 2000, the former CEO and his son filed a number
                    of complaints against the Company's president and are
                    seeking damages for alleged slander by the defendant in the
                    amount of approximately $ 750. The claim by the former CEO
                    was withdrawn and replaced by a new claim filed in 2004,
                    while his son's claim was dismissed and an appeal is pending
                    in the Supreme Court. Management believes based on its legal
                    counsel advice that the Company has a strong defense against
                    the allegations and accordingly did not record any
                    provision.

                                    - F-21 -
<Page>

                               RADA ELECTRONIC INDUSTRIES LTD.AND ITS SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS

NOTE 10:- COMMITMENTS AND CONTINGENT LIABILITIES (CONT.)

               3.   In 2001, a former employee and officer of the Company filed
                    a claim against the Company with the Tel Aviv Labor Court
                    claiming approximately $ 580 in respect of severance pay,
                    vacation pay and other fringe benefits. This claim was filed
                    as a counter-claim to a claim filed by the Company in 2000,
                    in the amount of $ 300 in respect of the repayment of a
                    personal loan that was provided to the former employee.
                    Management believes based on its legal counsel advice that
                    the Company has a strong defense against the employee's
                    counter-claim and accordingly did not record any provision.

               4.   In 2001, a former director filed a claim against the
                    Company, claiming that he is entitled to 600,000 options to
                    purchase Ordinary shares of the Company. Management believes
                    based on its legal counsel advice that the claim does not
                    have any merit and accordingly did not recorded any
                    provision.

               5.   In 2002, a claim was filed by an individual against the
                    Company, claiming that he served as a broker in an agreement
                    signed between the Company and a customer and is entitled to
                    commissions (or finder's fee) in the amount of $ 250.
                    Management believes based on its legal counsel advice that
                    the Company has a strong defense against the allegations.

               6.   The Company is involved from time to time in various legal
                    claims in the ordinary course of business, including claims
                    by agents and others for commissions, royalties and others
                    The Company has accrued an amount which it believes is
                    sufficient to cover any damages, if any, that may result
                    from these claims. The Company's management, based on the
                    advice of its legal counsel, believes that such claims will
                    not have a material adverse effect on the financial position
                    or results of operations of the Company.

          b.   The Company's research and development efforts have been
               partially financed through royalty-bearing programs sponsored by
               the Office of the Chief Scientist of the Ministry of Industry and
               Trade of Israel ("OCS"). In return for the OCS's participation,
               the Company is committed to pay royalties at a rate ranging from
               3% to 5% of sales of the products supported by the OCS, up to
               100% of the amount of such participation received linked to the
               U.S. dollar. The obligation to pay these royalties is contingent
               on actual sales of the products and in the absence of such sales,
               no payment is required. The Company's total obligation for
               royalties, net of royalties paid or accrued totaled approximately
               $ 641 as of December 31, 2004.

               The total amount of royalties charged to operations in the years
               ended December 31, 2004, 2003 and 2002 was approximately $ 60, $
               73 and $ 98, respectively.

          c.   Research and development projects undertaken by the Company were
               partially financed by the Binational Industrial Research and
               Development Fund ("BIRD") Foundation. The Company is committed to
               pay royalties to the BIRD Foundation at a rate of 5% of sales
               proceeds generating from projects for which the BIRD Foundation
               provided funding up to 150% of the sum financed by the BIRD
               Foundation. The Company's total obligation for royalties, net of
               royalties paid or accrued, totaled approximately $ 1,958 as of
               December 31, 2004. The obligation to pay these royalties is
               contingent on actual sales of the products and in the absence of
               such sales, no payment is required.

                                    - F-22 -
<Page>

                               RADA ELECTRONIC INDUSTRIES LTD.AND ITS SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS

NOTE 10:- COMMITMENTS AND CONTINGENT LIABILITIES (CONT.)

               The total amount of royalties charged to operations for the years
               ended December 31, 2004, 2003 and 2002 was approximately $ 20, $
               15 and $ 13, respectively.

          d.   The Netanya offices of the Company are rented under a
               non-cancelable operating lease expiring January 31, 2006 and
               there is an option to renew it again, until January 2008. In
               addition, certain of the Company's vehicles and computers are
               under operating leases. Annual minimum future rental commitments
               under these leases, at exchange rates in effect on December 31,
               2004, are approximately as follows:

<Table>
<S>                   <C>
               2005   $   468
               2006       306
               2007       235
                      -------

                      $ 1,009
                      =======
</Table>

               Lease expenses for the years ended December 31, 2004, 2003 and
               2002 were $ 508, $ 447 and $ 277, respectively.

          e.   Floating charges have been recorded on all of the Company's
               assets and specific charges have been recorded on certain assets
               in respect of the Company's liabilities to its banks and other
               creditors.

          f.   The Company obtains bank guarantees on behalf of its customers
               and suppliers in the ordinary course of business. The total
               amount of bank guarantees as of December 31, 2004 is
               approximately $ 4,123.

NOTE 11:- SHAREHOLDERS' EQUITY

          a.   Share capital:

               Ordinary shares confer upon their holders voting rights, the
               right to receive cash dividends and the right to share in excess
               assets upon liquidation of the Company.

               In July 2004, the Company issued 1,800,000 shares, an aggregate
               of $3,000 principal amount of convertible notes, additional
               investment rights to purchase up to an aggregate of 1,100,000
               Ordinary shares at an exercise price of $ 2.10 per share, (with a
               term of two years commencing six months following the closing)
               and warrants to purchase up to an aggregate of 937,500 Ordinary
               shares at an exercise price of $ 2.50 per share (for a term of
               five years commencing six months following the closing) .to
               investors in a private placement for a total consideration of $
               5,880 ($ 5,712 net of issuance expenses) (see also c. below). The
               consideration was allocated based on the relative fair values of
               the Oordinary shares, notes and warrants in accordance with APB
               No. 14, "Accounting for Convertible Debt and Debt Issued with
               Stock Purchase Warrants". The convertible notes bear interest at
               a rate of six-month LIBOR plus 2.5%. The principal is due in July
               2007 and the interest is payable in quarterly installments until
               July 2007. The notes are convertible to Ordinary shares at a
               conversion price of $ 2.10. In connection with the issuance of
               the notes, additional of investment rights and warrant, $180 was
               recorded as a beneficial conversion feature in accordance with
               EITF 98-5, "Accounting for Convertible Securities with Beneficial
               Conversion Features or Contingently Adjustable Conversion
               Ratios". The total amount of the deemed discount on the notes as
               a result of the warrants issuance and the beneficial conversion
               feature amounting to $ 760, is amortized over the term of the
               notes using the interest method. At December 31, 2004, the
               unamortized balance on the deemed discount on the convertible
               notes was $ 654. The fair value of the warrants (including
               additional investment rights) was based on a valuation prepared
               by an independent, valuation expert using the Black-Scholes
               pricing model, assuming a risk free interest of 2.64% and 3.69%,
               respectively, a volatility factor of 0.67 and 0.68, respectively,
               dividend yield of 0% and contractual life of two years and five
               years, respectively.

                                    - F-23 -
<Page>

                               RADA ELECTRONIC INDUSTRIES LTD.AND ITS SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS

NOTE 11:- SHAREHOLDERS' EQUITY (CONT.)

               Costs incurred with respect to the issuance of the convertible
               notes of $69 have been recorded as deferred charges and are
               amortized as financial expenses over the term of the notes using
               the interest method.

               In June 2002, the Company issued 1,938,775 Ordinary shares in a
               private placement to certain investors in consideration for an
               aggregate amount of $ 950 ($ 835, net of issuance expenses). The
               shares were issued at a 30% discount from the Ordinary share
               price on NASDAQ at the date of issuance, which was deemed to be
               the fair value of a "restricted" Ordinary share. See (c). below
               for warrants issued to investors.

               In June 2002, the Company issued 2,755,102 Ordinary shares in a
               private placement to a shareholder in consideration for
               conversion of a loan that was given to the Company in the amount
               of $ 1,350. The shares were issued at the same price as the
               shares issued in the 2002 private placement described above. See
               (c). below for warrants issued to a shareholder.

          b.   Stock option plans:

               In 1996, 1999 and 2003, the Company's Board of Directors approved
               the adoption of Employee Stock Option Plans (the "Plans"), which
               authorized the grant of options to purchase up to an aggregate of
               240,000, 1,040,000 and 2,000,000 Ordinary shares, respectively,
               to officers, directors, consultants and key employees of the
               Company and its subsidiary. Options granted under the Plans
               expire within a maximum of ten years from adoption of the plan.
               Options granted under the Company's Plans vest ratably over three
               years, one third on each anniversary of the grant.

               The exercise price of an option granted to an employee may not be
               less than 60% of the fair market value of the Ordinary shares on
               the date of grant of the option. The exercise price of an option
               granted to a non-employee director or consultant may not be less
               than 80% of the fair market value of the Ordinary shares on the
               date of grant of the option. Any options that are cancelled or
               forfeited before expiration, become available for future grants.
               At December 31, 2004, 226,032 options were available for grant
               under the Plans described above.

                                    - F-24 -
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                               RADA ELECTRONIC INDUSTRIES LTD.AND ITS SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS

NOTE 11:- SHAREHOLDERS' EQUITY (CONT.)

               In 2003, the Company granted suppliers/consultants, options to
               purchase 100,000 Ordinary shares at an exercise price ranging
               from $ 0.69 - $ 2.00. At the grant date, the fair value of the
               options was determined using the Black and Scholes pricing model
               assuming a risk free rate of 1%, a volatility factor ranging from
               30% to 70%, dividend yield of 0% and a contractual life of two to
               five years. In relation to the options, the Company recorded $ 14
               as operating expenses.

               Transactions related to the above Plans (including warrants to
               directors) during the years ended December 31, 2004, 2003 and
               2002 were as follows:

<Table>
<Caption>
                                                                  YEAR ENDED DECEMBER 31,
                                           --------------------------------------------------------------------
                                                   2004                   2003                    2002
                                           --------------------   ---------------------   ---------------------
                                                       WEIGHTED                WEIGHTED                WEIGHTED
                                                       AVERAGE                 AVERAGE                 AVERAGE
                                           AMOUNT OF   EXERCISE     AMOUNT     EXERCISE   AMOUNT OF    EXERCISE
                                            OPTIONS     PRICE     OF OPTIONS    PRICE      OPTIONS      PRICE
                                           ---------   --------   ----------   --------   ----------   --------
<S>                                        <C>          <C>        <C>          <C>       <C>           <C>
               Options outstanding at
                  beginning of year        2,223,200    $ 1.60       526,000    $ 4.89     1,638,000    $ 5.48
                  Granted                    100,000    $ 1.29     1,852,000    $ 1.07            --    $   --
                  Exercised                  (73,335)   $ 0.69            --    $   --            --    $   --
                  Expired                    (36,400)   $ 4.58            --    $   --            --    $   --
                  Forfeited or
                     cancelled              (182,032)   $ 1.89      (154,800)   $ 6.34    (1,112,000)   $ 5.76
                                           ---------               ---------              ----------

               Options outstanding at
                  end of year              2,031,433    $ 1.56     2,223,200    $ 1.60       526,000    $ 4.89
                                           =========    ======     =========    ======    ==========    ======

               Exercisable options at
                  end of year              1,425,434    $ 1.71     1,045,200    $ 2.23       411,600    $ 4.85
                                           =========    ======     =========    ======    ==========    ======
</Table>

               No options were granted in 2002. No compensation expense was
               recorded for the years ended December 31, 2004, 2003 and 2002.

               The options outstanding as of December 31, 2004 have been
               separated into ranges of exercise price, as follows:

<Table>
<Caption>
                                         OPTIONS OUTSTANDING              OPTIONS EXERCISABLE
                                -------------------------------------   ------------------------
                                                WEIGHTED
                                                 AVERAGE     WEIGHTED                   WEIGHTED
                                     AT         REMAINING     AVERAGE        AT         AVERAGE
                  RANGE OF      DECEMBER 31,   CONTRACTUAL   EXERCISE   DECEMBER 31,    EXERCISE
               EXERCISE PRICE       2004          LIFE         PRICE        2004         PRICE
               --------------   ------------   -----------   --------   ------------   ---------
                                                 (YEARS)
                                               -----------
<S>                               <C>              <C>        <C>        <C>            <C>
               $ 0.69 - 1.00        685,500        9.00       $ 0.70       522,501      $ 0.70
               $ 1.29 - 2.00      1,082,333        8.95       $ 1.37       639,333      $ 1.38
               $ 3.09 - 4.13        135,600        5.46       $ 3.52       135,600      $ 3.52
               $ 4.88 - 6.75        128,000        5.49       $ 5.63       128,000      $ 5.63
                                  ---------                              ---------

                                  2,031,433                   $ 1.56     1,425,434      $ 1.71
                                  =========                   ======     =========      ======
</Table>

                                    - F-25 -
<Page>

                               RADA ELECTRONIC INDUSTRIES LTD.AND ITS SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS

NOTE 11:- SHAREHOLDERS' EQUITY (CONT.)

          c.   Warrants:

               As of December 31, 2004, warrants to purchase 19,486,840 Ordinary
               shares were outstanding.

               In July 2004, in connection with the issuance of Ordinary shares
               and convertible notes described in a. above, the Company granted
               the investors additional investment rights to purchase up to an
               aggregate of 1,100,000 Ordinary shares at an exercise price of $
               2.10 per share, (with a term of two years commencing six months
               following the closing) and warrants to purchase up to an
               aggregate of 937,500 Ordinary shares at an exercise price of $
               2.50 per share (for a term of five years commencing six months
               following the closing).

               In September 2003, the Company signed an agreement with Bank
               Hapoalim B.M. and Bank Leumi Le-Israel B.M. (the "Banks") to
               restructure a portion of the debt owed to the Banks. The carrying
               value of the restructured debt was $ 3,451. As part of the
               restructuring, the Company issued 3,781,995 warrants to the
               Banks, paid cash of $ 1,100 and the Banks forgave the remaining
               debt. The warrants issued to the Banks have an exercise price
               equal to par value of the shares and a term of 2.5 years. The
               warrants have a lock-up period of 21 months. The Banks have a put
               option to sell the warrants to the Company's major shareholder
               for a consideration of $ 1,251. The put option is exercisable by
               the Banks only once during the period of 45 days commencing after
               the end of the period of 18 months from the date of the
               agreement. In addition, the Banks granted the Company's major
               shareholder a call option that requires the Banks to sell the
               warrants to the shareholder at the exercise price of the put
               option with an additional payment equal up to 25% of the increase
               in the market share price from the date of the agreement up to a
               maximum of $ 0.14 per warrant. The call option may be exercised
               by the shareholder during the period of 18 months from the date
               of the agreement and during a period of 45 days commencing after
               the termination of the put option. The Banks also received
               1,100,000 warrants having an exercise price of $ 2.00 per share,
               and a term of five years.

               The transaction was recorded in accordance with SFAS No. 15,
               "Accounting by Debtors and Creditors for Troubled Debt
               Restructurings". The warrants issued to the Banks were recorded
               at fair value ($ 1,267, net of issuance expenses). The fair value
               of the warrants was based on the value of an Ordinary share at
               the consummation date of the transaction (based on a valuation of
               the warrants prepared by a valuation expert). The difference
               between the consideration paid to the Banks and the carrying
               amount of the debt of $ 1,013, was recognized as a gain on
               restructuring of debt, net of issuance expenses, presented in
               financial income (expenses), net, in the statement of operations.

               In June 2002, in connection with the private placement described
               in a. above, the investors were issued warrants to purchase
               4,302,041 of the Company's Ordinary shares. Such warrants are
               valid for five years and are exercisable during the first 36
               months after issuance at an exercise price of $ 2 per share, and
               thereafter, during the following 24-month period, at an exercise
               price which will be equal to the higher of: (i) $ 2 per share or
               (ii) 50% of the average closing price during the ten trading days
               prior to the exercise date. The proceeds allocated to the
               warrants, based on the relative fair value of the warrants and
               shares issued amounted to $ 41.

                                    - F-26 -
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                               RADA ELECTRONIC INDUSTRIES LTD.AND ITS SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS

NOTE 11:- SHAREHOLDERS' EQUITY (CONT.)

               In June 2002, in connection with the conversion of a loan that
               was given to the Company by a shareholder in the amount of $
               1,350 as described in a. above, the Company issued the
               shareholder warrants to purchase 8,265,306 Ordinary shares. Such
               warrants have the same terms as the warrants described above. The
               proceeds allocated to the warrants, based on the relative fair
               value of warrants and shares issued amounted to $ 78. The benefit
               arising on conversion of the loan amounting to $ 83, was recorded
               as interest expense.

               The fair value of the warrants described above was estimated
               using Black-Scholes option-pricing model with the following
               weighted-average assumptions: risk-free interest rate of 2%,
               dividend yield of 0%, expected volatility of 24%, and expected
               life of warrant of five years.

NOTE 12:- TAXES ON INCOME

          a.   Measurement of taxable income under the Income Tax (Inflationary
               Adjustments) Law, 1985:

               Results for tax purposes are measured and adjusted in accordance
               with the change in the CPI. As explained in Note 2b, the
               consolidated financial statements are presented in U.S. dollars.
               The differences between the change in the Israeli CPI and in the
               NIS/U.S. dollar exchange rate cause a difference between taxable
               income or loss and the income or loss before taxes reflected in
               the consolidated financial statements. In accordance with
               paragraph 9(f) of SFAS No. 109, the Company has not provided
               deferred income taxes on this difference between the financial
               reporting basis and the tax bases of assets and liabilities.

          b.   Tax benefits under the Law for the Encouragement of Industry
               (Taxes), 1969:

               The Company is an "Industrial Company" under the Law for the
               Encouragement of Industry. The principal benefit from the above
               law is the deduction of expenses in connection with a public
               offering.

          c.   The Company in Israel is subject to tax at the rate of 35% of
               taxable income for 2004, 34% for 2005, 32% for 2006 and 30% for
               2007 onwards. As of December 31, 2004, the net operating loss
               carryforward for tax purposes relating to the Company in Israel
               amounted to approximately $ 44,400. Carryforward losses in Israel
               may be carried forward indefinitely and may be offset against
               future taxable income.

               As of December 31, 2004, carryforward losses relating to
               non-Israeli companies (U.S. and China), amounted to approximately
               $9,750.

               As the Company believes that the tax assets in respect of these
               carryforward losses amounting to approximately $19,000 are not
               more likely than not to be realized, the Company has recorded a
               valuation allowance in respect of the entire amount of the
               deferred tax asset relating to the carryforward losses.

                                    - F-27 -
<Page>

                               RADA ELECTRONIC INDUSTRIES LTD.AND ITS SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS

NOTE 12:- TAXES ON INCOME (CONT.)

          d.   Income (loss) before income taxes:

<Table>
<Caption>
                             YEAR ENDED DECEMBER 31,
                           --------------------------
                            2004     2003      2002
                           ------   ------   --------
<S>                        <C>      <C>      <C>
               Domestic    $  937   $  867   $ (2,175)
               Foreign       (115)    (109)      (308)
                           ------   -------  --------

                           $  822   $  758   $ (2,483)
                           ======   =======  ========
</Table>

          e.   The main reconciling items between the statutory tax rate of the
               Company and the effective tax rate is the valuation allowance
               recorded in respect of the tax assets relating to net operating
               loss carryforwards and other temporary differences due to the
               uncertainty of the realization of such tax assets.

NOTE 13:- SELECTED STATEMENTS OF OPERATIONS DATA

          a.   Financial income (expenses), net:

<Table>
<Caption>
                                                             YEAR ENDED DECEMBER 31,
                                                            -------------------------
                                                             2004      2003     2002
                                                            ------   -------   ------
<S>                                                         <C>      <C>        <C>
               Income:
                  Gain on restructuring of debt, net (see
                     Note 11c)                              $   --   $ 1,013   $   --
                  Foreign currency exchange differences        234        --      169
                  Interest on cash equivalents                   4         9        4
                                                            ------   -------   ------

                                                               238     1,022      173
                                                            ------   -------   ------
               Expenses:
                  Interest on convertible note                  64        --       --
                  Amortization of beneficial conversion
                     feature on convertible note               115        --       --
                  Foreign currency exchange differences         79        22       --
                  Interest on short-term loans and other
                     credit balances                            82       230      253
                  Bank commissions                             116        59       96
                  Interest to related parties                   --        --       89
                  Loss on extinguishment of debt                --        --       83
                  Others                                        30         3       16
                                                            ------   -------   ------

                                                               486       314      537
                                                            ------   -------   ------

                                                            $ (248)  $   708   $ (364)
                                                            ======   =======   ======
          b.   Other income (expenses), net:

               Impairment of loan                           $   --   $    --   $ (290)
               Others, net                                      23       (2)       --
                                                            ------   -------   ------

                                                            $   23   $   (2)   $ (290)
                                                            ======   =======   ======
</Table>

                                    - F-28 -
<Page>

                               RADA ELECTRONIC INDUSTRIES LTD.AND ITS SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS

NOTE 14:- RELATED PARTY TRANSACTIONS

          There are no related party balances as of December 31, 2004 and 2003.
          Related party transactions reflected in the statement of operations
          for the years ended December 31, 2004, 2003 and 2002 are as follows:

<Table>
<Caption>
                                                   YEAR ENDED DECEMBER 31,
                                                   -----------------------
                                                    2004     2003    2002
                                                   ------   -----   ------
<S>                                                 <C>      <C>     <C>
               Related party (*):

                  Revenues                          $ --     $ --    $ 394
                                                    ====     ====    =====

               Shareholder:

                  Interest expense                  $ --     $ --    $  89
                                                    ====     ====    =====

                  Loss on extinguishment of loan    $ --     $ --    $  83
                                                    ====     ====    =====
</Table>

          (*) A company controlled by a Company shareholder. See also Note 11c.

NOTE 15:- MAJOR CUSTOMERS AND GEOGRAPHIC INFORMATION

          a.   In accordance with Statement of Financial Accounting Standards
               No. 131 "Disclosures About Segments of an Enterprise and Related
               Information", the Company is organized and operates as one
               business segment, which develops, manufactures and sells ATE
               products, avionics equipment and aviation data acquisition and
               debriefing systems.

          b.   Revenues by geographic areas:

               Revenues are attributed to geographic area based on the location
               of the end customers as follows:

<Table>
<Caption>
                                   YEAR ENDED DECEMBER 31,
                               ------------------------------
                                 2004       2003       2002
                               --------   --------   --------
<S>                            <C>        <C>        <C>
               North America   $  4,715   $  5,115   $  6,671
               Europe             3,022      3,436      1,599
               Israel             4,998      3,224      1,442
               Others             1,425        540        687
                               --------   --------   --------

               Total           $ 14,160   $ 12,315   $ 10,399
                               ========   ========   ========
</Table>

                                    - F-29 -
<Page>

                               RADA ELECTRONIC INDUSTRIES LTD.AND ITS SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS

NOTE 15:- MAJOR CUSTOMERS AND GEOGRAPHIC INFORMATION

          c.   Major customers:

               Revenues from single customers that exceed 10% of the total
               revenues in the reported years as a percentage of total revenues,
               are as follows:

<Table>
<Caption>
                            YEAR ENDED DECEMBER 31,
                            -----------------------
                             2004     2003    2002
                            ------   -----   ------
                                       %
                            -----------------------
<S>                           <C>      <C>     <C>
               Customer A     19       11      *)
               Customer B     *)       12      *)
               Customer C     *)       22      34
               Customer D     10       14      19
               Customer E     11       --      --
               Customer F     17       19      *)
</Table>

               *) Less than 10%.

          d.   Long lived assets by geographic areas:

<Table>
<Caption>
                                DECEMBER 31,
                        ---------------------------
                          2004      2003      2002
                        -------   -------   -------
<S>                     <C>       <C>       <C>
               Israel   $ 4,718   $ 5,179   $ 6,977
               China      1,333     1,536     1,761
                        -------   -------   -------

                        $ 6,051   $ 6,715   $ 8,738
                        =======   =======   =======
</Table>

                                    - F-30 -
<Page>

                               RADA ELECTRONIC INDUSTRIES LTD.AND ITS SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
U.S. DOLLARS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA

NOTE 16:- NET INCOME (LOSS) PER SHARE

          The following table sets forth the computation of basic and diluted
          net earnings (loss) per share:

<Table>
<Caption>
                                                                           YEAR ENDED DECEMBER 31,
                                                                       ------------------------------
                                                                         2004       2003       2002
                                                                       --------   --------   --------
<S>                                                                    <C>        <C>        <C>
               Numerator:

               Net income (loss)                                       $    822   $    758   $ (2,483)
                                                                       ========   ========   ========

               Denominator:

               Weighted average number of shares of Ordinary
                  stock outstanding during the year used to compute
                  basic net income (loss) per share (in thousands)       19,374     18,511     16,555
               Incremental shares attributable to exercise of
                  outstanding options and warrants (assuming
                  proceeds would be used to purchase Treasury
                  stock) (in thousands)                                   4,310      1,193         --
                                                                       --------   --------   --------

               Weighted average number of shares of Ordinary
                  stock outstanding during the year used to compute
                  diluted net income (loss) per share (in thousands)     23,684     19,704     16,555
                                                                       ========   ========   ========

               Basic net income (loss) per share                       $   0.04   $   0.04   $  (0.15)
                                                                       ========   ========   ========

               Diluted net income (loss) per share                     $   0.03   $   0.04   $  (0.15)
                                                                       ========   ========   ========
</Table>

NOTE 17:- SUBSEQUENT EVENT

          On February 2005, the Company's Board of Directors approved the
          purchase of all the assets that are used by, or related to the
          operation of Vectop Limited ("Vectop"), an Israeli company
          specializing in the design, development, marketing and sale of
          electro-optic equipment and debriefing systems business. Vectop's
          assets also include know-how, patents and intellectual property to
          produce off-the-shelf products such as cameras and video recorders,
          which are currently operational onboard aircraft and tanks in Israel
          and other countries. The Company purchased Vectops assets for $ 280 in
          cash and future consideration based on revenues derived from Vectop
          projects. In addition, the Company is assuming $ 800 of Vectop's bank
          debt, payable commencing in 2006 over a two-year period, as well as
          other operational liabilities.

                                   ----------

                                    - F-31 -

<PAGE>

                               S I G N A T U R E S

      The registrant hereby certifies that it meets all of the requirements for
filing on Form 20-F and that it has duly caused and authorized the undersigned
to sign this annual report on its behalf.

                                    RADA ELECTRONIC INDUSTRIES LTD.

                                    By:   /S/ Herzle Bodinger
                                    -------------------------
                                    Name: Herzle Bodinger
                                    Title:  President

Dated:  March 31, 2005


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