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# SECURITIES AND
EXCHANGE COMMISSIONWASHINGTON, D.C. 20549

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# FORM 20-F

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

|For the
fiscal year ended December 31, 2006 | Commission File No. 000-27974
|------------------------------------------- | -----------------------------

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CIMATRON LTD. (Exact
name of Registrant as specified in its charter and translation of Registrants name
into English)

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Israel 
(Jurisdiction of
incorporation or organization)

11 Gush Etzion St.,
Givat Shmuel 54030, Israel 
(Address of principal
executive offices)

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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, nominal
value 0.10 New Israeli Shekel per share 
(Title of Class) Securities
for which there is a reporting obligation pursuant to Section 15(d) of the Act:

None 
(Title of Class)

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|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:
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------

8,001,270 Ordinary
Shares

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

o
Yes    x No

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

o
Yes    x No



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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:

o
Yes    x No

Indicate
by check mark whether the registrant is a large accelerated filer, an accelerated filer,
or a non-accelerated filer.

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

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

Item 17 o Item 18 x

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

o
Yes    x No



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All
references herein to dollars or $ are to United States dollars,
and all references to Shekels or NIS are to New Israeli Shekels.

2

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|           |                                                                              |   
|---------- | ---------------------------------------------------------------------------- | --
|
|
|
|
|PART I     |                                                                              |   
|ITEM 1.    | IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISORS                        | 4 
|ITEM 2.    | OFFER STATISTICS AND EXPECTED TIMETABLE                                      | 4 
|ITEM 3.    | KEY INFORMATION                                                              | 4 
|ITEM 4.    | INFORMATION ON THE COMPANY                                                   | 17
|ITEM 5.    | OPERATING AND FINANCIAL REVIEW AND PROSPECTS                                 | 29
|ITEM 6.    | DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES                                   | 44
|ITEM 7.    | MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS                            | 54
|ITEM 8.    | FINANCIAL INFORMATION                                                        | 57
|ITEM 9.    | THE OFFER AND LISTING                                                        | 58
|ITEM 10.   | ADDITIONAL INFORMATION                                                       | 59
|ITEM 11.   | QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK                   | 73
|ITEM 12.   | DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES                       | 74
|PART II    |                                                                             
|ITEM 13.   | DEFAULTS, DIVIDEND AVERAGES AND DELINQUENCIES                                | 74
|ITEM 14.   | MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS AND USE OF PROCEEDS | 74
|ITEM 15.   | CONTROLS AND PROCEDURES                                                      | 75
|ITEM 16A.  | AUDIT COMMITTEE FINANCIAL EXPERT                                             | 75
|ITEM 16B.  | CODE OF ETHICS                                                               | 75
|ITEM 16C.  | PRINCIPAL ACCOUNTANT FEES AND SERVICES                                       | 76
|ITEM 16D.  | EXEMPTIONS FROM THE LISTING STANDARDS FOR AUDIT COMMITTEES                   | 76
|ITEM 16E.  | REPURCHASE OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATED PURCHASERS      | 76
|PART III. 
|ITEM 17.   | FINANCIAL STATEMENTS                                                         | 77
|ITEM 18.   | FINANCIAL STATEMENTS                                                         | 77
|ITEM 19.   | EXHIBITS                                                                     | 78
|SIGNATURES |                                                                              | 79

3

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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
|------- | ---------------

Selected Financial Data

The
 following  selected  financial  statement  of income data for the years  ended  December
31, 2004,  2005 and 2006,  and the balance sheet data as of December 31, 2004,  2005 and
2006 are derived from the  financial  statements  set forth  elsewhere in this  Report.
 The selected  financial  statements  of income  data for the years ended  December  31,
2002 and 2003 and the  selected  balance  sheet data as of December  31, 2002 and 2003,
 are derived from other  audited  financial  statements  not included in this report.
 The audited  financial  statements have been prepared in accordance  with  accounting
 principles generally  accepted in the United  States,  or U.S.  GAAP.  The financial
 statements  for the years ended December 31,  2003,  2004,  2005 and 2006 were  audited
by  Brightman  Almagor & Co., a member of Deloitte Touche  Tohmatsu,  independent
 auditors.  All of the  financial  data set forth  below  should be read in conjunction
 with "Item 5 - Operating  and  Financial  Review and  Prospects"  and the  audited
 financial statements  and notes thereto  (together,  the "Financial  Statements")  and
other  financial  information included elsewhere in this annual report.

|                                              | December 31,
|--------------------------------------------- | ------------
|
|
|
|
|Statement of Income Data:                     |             
|Revenue:                                      |             
|                                              |             
|Products                                      |             
|Services                                      |             
|                                              |             
|Total                                         |             
|                                              |             
|Cost of revenue:                              |             
|Products                                      |             
|Services                                      |             
|                                              |             
|Total                                         |             
|                                              |             
|Gross profit                                  |             
|Research and development costs, net           |             
|Restructuring costs                           |             
|Selling, general and administrative
 expenses |             
|                                              |             
|Operating profit (loss)                       |             
|Financial income (expenses), net              |             
|Other income (expenses)                       |             
|                                              |             
|Income (loss) before taxes                    |             
|Taxes on income                               |             
|                                              |             
|Income (loss) after income taxes              |             
|Company's equity in results of affiliated     |             
|company                                       |             
|                                              |             
|Minority interest in results of subsidiary    |             
|                                              |             
|Net income (loss)                             |             
|                                              |             
|Net income (loss) per share                   |             
|Weighted average number of shares             |             
|outstanding                                   |             

* Less than $ 0.01

4

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|                                            | December 31,
|------------------------------------------- | ------------
|
|
|
|
|Balance Sheet Data                          |             
|Cash and cash equivalents                   |             
|Short-term investments                      |             
|                                            |             
|Total cash, cash equivalents and short-term |             
|investments                                 |             
|Working capital                             |             
|Total assets                                |             
|Total liabilities                           |             
|Shareholders' equity                        |             

# Risk Factors

This
annual report and statements that we may make from time to time may contain
forward-looking information. There can be no assurance that actual results will not differ
materially from our expectations, statements or projections. Factors that could cause
actual results to differ from our expectations, statements or projections include the
risks and uncertainties relating to our business described below. The risks described
below are not the only ones we face. Additional risks that we currently do not know about
or that we currently believe to be immaterial may also impair our business operations.

# Risks Related to our
Business

We face intensive
competition in our industry.

The
CAD/CAM software industry, characterized by rapid advances in technology and changing
customer requirements, is highly competitive.We design, develop, manufacture,
market and support a family of modular, high performance, fully integrated, computer-aided
design/computer aided manufacturing, or CAD/CAM, software products. Traditionally, our
competitors in the CAD/CAM market are at both the high and low end of the market. The
lower end of the market consists of dedicated Numerical Control, or NC, programming
systems offerings, which have limited or no modeling capability,while the high end
of the market, including our Cimatron E consists of integrated CAD/CAM systems. Many
high-end market products are roughly similar to our Cimatron E product.

5

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As
the CAD/CAM software industry is highly fragmented and characterized by many relatively
small and privately owned companies, we face competition from numerous companies in
relation to all of our products. In addition, some of our competitors are more
established, benefit from greater market recognition and have greater financial,
production and marketing resources than us. We believe that, due to the large number of
companies that operate in this market, we do not have a single major competitor or a group
of competitors. The principal factors permitting our products to compete successfully
against our competitors products are:

| |  | the
 compatibility  of our products with other  software  applications  and existing and
emerging         industry standards;
| | - | -----------------------------------------------------------------------------------------------------------------------------

| |  | our
ongoing product and feature development;
| | - | --------------------------------------------

| |  | the
offering of unique innovative products to the tooling industry;
| | - | -------------------------------------------------------------------

| |  | the
level of our product breadth and integration;
| | - | -------------------------------------------------

| |  | the
technical expertise and support that we provide;
| | - | ----------------------------------------------------

| |  | the
flexibility  of our products;
| | - | ---------------------------------

| |  | the
reputation we maintain among certain  independent  distributors of our products,  to
which we         refer as Providers; and
| | - | ---------------------------------------------------------------------------------------------------------------------------------

| |  | the
relatively low overall price and total cost of ownership of our products combined with
the high-end capabilities of our products.
| | - | -------------------------------------------------------------------------------------------------------------------------------------

Although
we believe that the attributes of our products provide us with a competitive advantage
over our competitors, there can be no assurance that the marketplace will consider
Cimatron E to be superior to existing competing products. In addition, new competitors may
arise in each of the markets in which we currently operate.Furthermore, as we
enter new geographic markets, we may encounter significant competition from companies that
are more established in such markets. Accordingly, there can be no assurance that our
existing or future products will successfully compete against our competitors
products.

We are heavily reliant on
the sale of one family of products.

Sales
and services related to the Cimatron E product family have historically accounted for
substantially all of our revenue. If sales of the Cimatron E family were to decline, or
fail to grow, or the profit margin on these products were to decrease significantly, our
business, financial condition and results of operations would be materially and adversely
affected.

Our business depends
significantly upon sales by our customers of products in the consumer market. This market
is extremely competitive and is highly susceptible to fluctuations in demand.

Our
products are designed for use by manufacturers of consumer products or consumer product
components. The consumer products market is intensely competitive and price sensitive.
Sales of consumer products have historically been dependent upon discretionary spending by
consumers. Consumers may defer or alter purchasing decisions based on economic conditions
or other factors, and accordingly could cause a reduction in demand for products
manufactured by our customers. Softening consumer demand for consumer products has in the
past caused a decline in the demand for our products and any future softening in demand
for consumer products could cause uncertainty with respect to our expected revenues or
adversely affect our revenues and operating results.

6

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Two of our shareholders
beneficially own a substantial amount of our ordinary shares and may therefore influence
our affairs.

In
February 2002, two private holding companies, Koonras Technologies Ltd., or Koonras, a
subsidiary of Polar Communications Ltd., and DBSI Investments Ltd. or DBSI, consummated a
transaction with Zeevi Computers and Technology Ltd., or ZCT, by which they acquired, for
approximately $9,900,000, all of our Ordinary Shares previously held by ZCT, representing
64.3% of our share capital (including in this calculation 166,100 of our ordinary shares
which we have repurchased and which, pursuant to Israeli law, cannot be voted and possess
no rights other than upon liquidation). Following this transaction, each of Koonras and
DBSI beneficially owned approximately 33% of our ordinary shares and each currently
continues to own approximately 32% of our ordinary shares. Accordingly, Koonras and DBSI
together are expected to continue to effectively have the ability to control the outcome
of most matters submitted to a vote of our shareholders, including the election of members
of our board of directors and approval of significant corporate transactions. Koonras and
DBSI have entered into an agreement by which, among other matters, they will each appoint
one half of our directors, not including our external directors, and vote together at our
shareholders meetings. The concentration of ownership of our Ordinary Shares by
Koonras and DBSI could delay or prevent proxy contests, mergers, tender offers,
open-market purchase programs or other purchases of our Ordinary Shares that might
otherwise give you the opportunity to realize a premium over the then-prevailing market
price of our Ordinary Shares. This concentration of ownership may also adversely affect
our share price, especially if these shareholders sell substantial amounts of our ordinary
shares under their registration rights.

We are subject to several
risks as a result of our international sales.

To
date, our products have been sold primarily in Europe, the Far East, North America and
Israel. We expect that international sales will continue to represent a substantial
portion of our business. Companies that engage in international sales are subject to a
number of risks, such as:

| |  | agreements
may be difficult to enforce through a foreign company's legal system;
| | - | --------------------------------------------------------------------------------

| |  | foreign
countries could impose additional withholding or other taxes on our income;
| | - | -----------------------------------------------------------------------------------

| |  | foreign
countries could impose tariffs or adopt other restrictions on foreign trade;
| | - | ------------------------------------------------------------------------------------

| |  | fluctuations
in exchange rates;
| | - | -------------------------------

| |  | changes
in general economic conditions in one or more countries could affect product demand;
| | - | --------------------------------------------------------------------------------------------

7

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| |  | the
 protection  of  intellectual  property  rights in foreign  countries  may be limited or
more         difficult to enforce; and
| | - | -----------------------------------------------------------------------------------------------------------------------------------

| |  | difficulties
in managing overseas subsidiaries and international operations, including difficulty in
retaining or replacing local management.
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------

There
can be no assurance that these and similar factors will not have a material adverse effect
on our future international sales and, consequently, on our business, future prospects and
results of operations.

Many customers of the CAD/CAM
industry have migrated their operations to the Far East. In order to remain competitive in
the industry, we need to penetrate the Far East markets; operation in these markets
subjects us to specific risks.

Many
mold, tool, die and fixture makers have migrated or intend to migrate their operations to
markets in the Far East, such as China, in order to take advantage of the relatively lower
cost of labor available in those markets for their manufacturing activities. We anticipate
that this migration will continue. In order to continue to compete in the CAD/CAM software
industry, we will need to increase our penetration of these markets. Many of those
markets, including China, are characterized by lower prices and by higher usage of pirated
copies of software products. While those markets are also often much larger than a number
of our traditional markets in Europe, to the extent that we cannot offset the effects of
lower prices and higher incidents of pirated software usage, our revenues and
profitability may be materially adversely affected.

We are reliant upon
independent distributors to market and support our products.

We
rely on independent distributors, to whom we refer as Providers, to market, sell, service
and support our products worldwide. Generally, our relationships with our Providers are
based on agreements with two-year terms (subject to rolling two-year extensions) and which
enable Providers to purchase our products at a discounted price. While we have exclusive
relationships with certain of our Providers, there can be no assurance that these
Providers will give high priority to the marketing and support of our products. In
addition, our Providers in Italy and Japan each accounted for more than 10% of our
revenues in 2006. In July 2005 we acquired 27.5% of the shares of the Italian Provider and
an option to purchase its remaining outstanding shares from its shareholders and granted
the Providers shareholders an option to require us to purchase 49% of the
Providers share capital under specific circumstances. In May 2007, our board of
directors approved the exercise of our option to increase our holdings in the Italian
Provider to 51%, which increase is scheduled to take effect during the first week of July
2007. See Item 5. Operating and Financial Review and Prospects  Overview
for additional details regarding the transaction with our Italian Provider and the options
received both by us and the Providers shareholders. The results of our operations
could be adversely affected by changes in the financial condition of a Provider, which
could occur rapidly, or to other changes in our current Providers business or
marketing strategies. There can be no assurance that we will retain our current Providers,
nor can there be any assurance that, in the event that we lose any of our Providers, we
will be successful in recruiting other highly professional and technically competent
Providers to represent us. Any such changes in our distribution channels, especially those
in the Far East and Europe, could materially adversely affect our business, operating
results and financial condition. See Item 4  Information on the Company 
Business Overview.

8

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Following our acquisition
of 51% of MicroSystem, its results of operations may have a material impact on our results of operations.

Following
the exercise of our option to increase our holdings in MicroSystem, our Italian Provider,
to 51%, which increase is scheduled to take effect during the first week of July 2007, we
will fully consolidate the results of Microsystem, subject to exclusion of minority
interest. Therefore, Microsystems results of operation, including revenues, gross
margins and operating income, could have a material effect on our results of operation
including revenues, gross margins and operating income. The consolidation of
Microsystems financial statements will also increase the impact of changes in the
Euro  dollar exchange rate on our revenues and expenses, as substantially all of
Microsystems revenues and expenses are Euro-denominated.

We have a history of
annual and quarterly losses and cannot assure you that we will continue to remain profitable
on an annual basis or remain profitable on a quarterly basis in the future.

We
incurred net losses of approximately $0.4 million and $4.6 million in 2004 and 2005
respectively. Although we had net income of $0.5 million in 2006 and net income of
approximately $0.2 million in the first quarter of 2007, we cannot be certain that we will
maintain profitability on a quarterly or annual basis.

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

Our
quarterly revenues, gross profits and results of operations have fluctuated significantly
in the past and may be subject to continued fluctuation in the future. The following
events may cause such fluctuations:

| |  | changes
in timing of orders, especially large orders, for our products and services;
| | - | ------------------------------------------------------------------------------------

| |  | changes
in the prices for our products and services;
| | - | ----------------------------------------------------

| |  | adverse
economic conditions and international exchange rate and currency fluctuations;
| | - | --------------------------------------------------------------------------------------

| |  | delays
in the implementation of our solutions by customers;
| | - | -----------------------------------------------------------

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

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

| |  | changes
in the economic conditions of the various industries in which our customers operate;
| | - | --------------------------------------------------------------------------------------------

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

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

9

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| |  | technological
changes; and
| | - | --------------------------

| |  | political
instability in the Middle East.
| | - | -----------------------------------------

A
substantial portion of our expenses, including most product development, selling and
marketing expenses, must be incurred in advance of when revenue is generated. If our
projected revenue does not meet our expectations, we are likely to experience a shortfall
in our operating profit relative to our expectations. As a result, we believe that
period-to-period comparisons of our historical results of operations are not necessarily
meaningful and that you should not rely on them as an indication for future performance.
Also, our quarterly results of operations have, on separate occasions, been below the
expectations of public market analysts and investors and the price of our ordinary shares
subsequently decreased. If that would happen in the future, the price of our ordinary
shares will likely decrease again.

Because of our
international operations, changes in exchange rates against the U.S. dollar could have a significant
effect on our results of operations. In addition, local economic conditions or
currency fluctuations could cause customers to decrease or cancel orders or default on
payment.

Although
part of our revenues are denominated and paid in U.S. dollars, the majority are not so
denominated and paid. Therefore we believe that inflation and fluctuations in the U.S.
dollar exchange rate may have a material effect on our revenue. In addition, a significant
portion of our international sales is denominated in Euros, and in the future additional
sales may be denominated in currencies other than U.S. dollars, thereby exposing us to
gains and losses on non-U.S. currency transactions.  We may choose to limit this
exposure by entering into hedging transactions.  However, hedging transactions may
not prevent exchange-related losses, and our business may be harmed by exchange rate
fluctuations.  Furthermore, as we seek to expand our sales to regions throughout the
world, we might be exposed to risks of customers located in countries suffering from
uncertain economic environments such as high inflation and solvency problems. Those issues
and devaluation in local currencies of our customers relative to the U.S. dollar where our
sales are denominated in U.S. dollars could cause customers to decrease or cancel orders
or default on payment.

Prior to 2006 we experienced
decreases in our revenues from products. If this trend will return, it will likely
adversely affect our gross margins and profitability.

Although
our revenues from the sales of products increased to approximately $9.6 million in 2006
from approximately $9.0 million in 2005, product revenues have decreased from
approximately $11.4 million in 2004. At the same time, revenues from maintenance and
services have remained generally unchanged at approximately $11.8 million to approximately
$12.0 million. Our gross margin from products is higher than our gross margin from
services. This is because our cost of services, which includes expenses of salaries and
related benefits of the employees and subcontractors engaged in providing the services, is
relatively higher than our cost of products. If our overall percentage of revenues
comprised by maintenance and service revenues will increase, our gross margins and
profitability will likely be adversely affected. In addition, if our revenues from the
sale of products will decrease, such decrease may adversely affect our future maintenance
and service revenues, as it may result in a smaller user base to purchase maintenance and
service contracts from us.

10

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If we are unable to
accurately predict and respond to market developments or demands, or if our products are
not accepted in the marketplace, our business will be adversely affected.

It
is difficult to predict demand and CAD/CAM market acceptance for our solutions and
products. We cannot guarantee that the market for our solutions and products will grow or
that they will become widely accepted. If the market for our solutions and products does
not develop as quickly as we expect, our future revenues and profitability will be
adversely affected. Changes in technologies, industry standards, client requirements and
new product introductions by existing or future competitors could render our existing
offerings obsolete and unmarketable, or require us to develop new products. If our
solutions and products do not achieve or maintain market acceptance or if our competitors
release new products that achieve quicker market acceptance, have more advanced features,
offer better performance or are more price competitive, our revenues may not grow and may
even decline. In addition, if a product we develop and introduce does not achieve market
acceptance, we may not be able to recover the costs associated with developing the
product, which would have a negative effect on our profitability.

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

Our
future success depends on our ability to absorb and retain senior employees and to
attract, motivate and retain highly qualified professional employees. Competition for
these employees can be intense, especially in a number of our key markets and locations.
The process of locating, training and successfully integrating qualified personnel into
our operations can be lengthy and expensive. The market for the qualified personnel we
require is very competitive because of the limited number of people available with the
necessary technical and sales skills and understanding of our products and technology.
This is particularly true in Israel where competition for qualified personnel is intense.
We may not be able to compete effectively for the personnel we need. Any loss of members
of senior management or key technical personnel, or any failure to attract or retain
highly qualified employees as needed, could materially adversely affect our ability to
achieve our research and development and sales objectives.

Under current Israeli
law, we may not be able to enforce covenants not to compete and therefore may be unable
to prevent our competitors from benefiting from the expertise of some of our former
employees.

We
have entered into non-competition agreements with substantially all of our employees in
Israel. These agreements prohibit our employees, during the term of their employment with
us and after they cease working for us, from competing directly with us or working for our
competitors for a limited period. Under current Israeli law, we may be unable to enforce
these agreements and it may be difficult for us to restrict our competitors from gaining
the expertise our former employees gained while working for us. For example, Israeli
courts have required employers seeking to enforce non-compete undertakings of a former
employee to demonstrate that the competitive activities of the former employee will harm
one of a limited number of material interests of the employer that have been recognized by
the courts, such as the secrecy of a companys confidential commercial information or
its intellectual property. If we cannot demonstrate that harm would be caused to us, we
may be unable to prevent our competitors from benefiting from the expertise of our former
employees.

11

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Any future acquisitions of
companies or technologies may distract our management and disrupt our business. In
addition, the issuance by us of securities as consideration payable in such acquisitions
could be dilutive to our existing shareholders.

One
of our strategies is to acquire or make investments in complementary businesses,
technologies, services or products if appropriate opportunities arise. For instance, in
July 2005 we acquired 27.5% of the shares of our Italian distributor and an option to
purchase the remaining outstanding shares of that company from its stockholders, and
granted the distributors shareholders an option to require us to purchase 49% of the
distributors share capital under specific circumstances. In May 2007, our board of
directors approved the exercise of our option to increase our holdings in our Italian
distributor to 51%, which increase is scheduled to take effect during the first week of
July 2007. During August 2006, we acquired the remaining 69.83% of the outstanding shares
of our Korean provider, which thereafter became a wholly owned subsidiary. See Item
5. Operating and Financial Review and Prospects  Overview for additional
details regarding the transaction with our Korean distributor and Italian distributor and
the options received both by us and the shareholders of the Italian distributor. We may in
the future engage in discussions and negotiations with companies about our acquiring or
investing in those companies businesses, products, services or technologies. We
cannot give assurances that we will be able to identify future suitable acquisition or
investment candidates, or, if we do identify suitable candidates, that we will be able to
make the acquisitions or investments on commercially acceptable terms or at all. If we
acquire or invest in another company, we could have difficulty assimilating that
companys personnel, operations, technology or products and service offerings into
our own or the key personnel of the acquired company may decide not to work for us. These
difficulties could disrupt our ongoing business, distract our management and employees,
increase our expenses and adversely affect our results of operations. In addition, we may
incur indebtedness or dilute our existing shareholders by issuing equity securities to pay
for any future acquisitions.

We are affected by
volatility in the securities markets.

Securities
markets have in recent years experienced volatility that has particularly affected the
securities of many high-technology companies. This volatility has often been unrelated to
the operating performance of these companies, including Cimatron. As a result, we may
experience difficulties in securing the additional financing required to effectively
operate and grow our business due to the volatility in the price of our shares, resulting
in a material adverse affect on our business and results of operations.

12

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We may not be successful
in our arbitration proceedings with Omega.

In
April 2004, Omega  Adem Technologies Ltd., an Israeli privately held company engaged
in the development of software, filed a lawsuit against us, claiming that we caused four
employees of the plaintiff located in Russia to terminate their employment with the
plaintiff and join us. In September 2004, Omega submitted a statement of claim to an
arbitrator for an amount of $20,000,000 for damages caused to it due to the employment of
the four employees in question. The arbitration process is now in its final stage. We
believe that there is no merit to the claim, which we have continuously vigorously
opposed, but we have nevertheless accrued in the fourth quarter of 2005 a sum of $250,000
for this claim. We cannot give any assurance that we will be victorious or that the
arbitration award will not exceed the amount we accrued. See Item 8  Financial
Information  Legal Proceedings for more information regarding this claim.

# Risks Related to
Licenses and Intellectual Property

We rely, to a certain extent,
on third parties software. If we lose the ability to continue to license that
software, our business could be materially adversely affected.

To
date, most of the software relating to the Cimatron E family of products has been
developed internally by our research and development staff. However, to accelerate our
product development and improve our time to market, we also review opportunities to
acquire or license products or technologies from third parties. Mainly, we utilize
software tools and engines that we acquire from Spatial Corp., a subsidiary of Dassault
Systems, and D-Cubed, for the representation and processing of three dimensional objects
and surfaces in order to expedite the continued development of our new Cimatron E product family.In addition, we use software from ModuleWorks GmbH,
a German company, for advanced 5-Axis NC calculations, and advanced metal forming software
from Forming Technologies Incorporated (FTI), a Canadian company. We rely, to a certain
extent, upon such third parties abilities to enhance their current products and
develop new products on a timely and cost-effective basis that will meet changing customer
requirements and emerging industry standards or other technological changes. Our business
would be disrupted if functional versions of the third party software we rely on were
either no longer available to us or no longer offered to us on commercially reasonable
terms and we may, as a result, suffer a material adverse effect on our business and
operations.

We may not be successful
in protecting our intellectual proprietary technology and this could result in the loss
of revenue.

We
primarily rely on a combination of trade secret, copyright and trademark laws, together
with non-disclosure agreements and trademark measures (such as software protection
locks), to establish and protect proprietary rights in our products. The
measures afford only limited protection and, accordingly, there can be no assurance that
the steps that we take to protect these proprietary rights will be adequate to provide
misappropriation of the technology or independent development of similar technology by
others. This is particularly a problem in foreign countries where the laws may not protect
our proprietary rights as fully as the laws of the United States do. For instance, we have
encountered significant piracy problems in certain jurisdictions, including in Brazil,
Taiwan, Israel and China, where we face significant competition from pirated copies of our
products. These problems may increase as many of our customers and their competitors
migrate their businesses to lower cost labor markets in the Far East. Despite our best
efforts to protect proprietary rights, unauthorized parties may attempt to copy aspects of
our products or to obtain and use information that we regard as proprietary.

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We may be subject to
litigation to determine the scope of proprietary rights of others.

Significant
and protracted litigation may be necessary to protect our intellectual property rights, to
determine the scope of the proprietary rights of others or to defend against claims of
infringement. We believe that our systems do not infringe upon any existing third-party
proprietary rights, and to our knowledge there have been no claims of infringement by us
of third-party proprietary rights to date; however, there can be no assurance that any
such claims will not be asserted against us in the future. If infringement is alleged, we
could be required to discontinue the use of certain software codes or processes, to cease
the manufacture, use and sale of infringing products, to incur significant litigation
damages, costs and expenses and to develop non-infringing technology or to obtain licenses
to the alleged infringing technology. There can be no assurance that we would be able to
develop alternative technologies or to obtain such licenses on terms commercially
acceptable to us, if at all.

# Risks Related to our
Operations in Israel

We may be adversely
affected if the rate of inflation in Israel exceeds the rate of devaluation of the New Israeli Shekel
against the U.S. dollar.

Our
functional currency is the U.S. dollar while a portion of our expenses, principally
salaries and the related personnel expenses, are in new Israeli shekels, or NIS. As a
result, we are exposed to the risk that the rate of inflation in Israel will exceed the
rate of devaluation of the NIS in relation to the U.S. dollar or that the timing of this
devaluation lags behind inflation in Israel. To the extent that the value of the New
Israeli Shekel increases against the U.S. dollar, our expenses on a U.S. dollar cost basis
increase. We cannot predict any future trends in the rate of inflation/ deflation in
Israel or the rate of devaluation of the NIS against the U.S. dollar. If the U.S. dollar
cost of our operations in Israel increases, our U.S. dollar-measured results of operations
will be adversely affected. The Israeli rate of inflation (deflation) amounted to 1.2%,
2.4% and (0.1)% for the years ended December 31, 2004, 2005 and 2006, respectively. If the
U.S. dollar cost of our operations in Israel increases, our dollar-measured results of
operations will be adversely affected. The New Israeli Shekel revaluation (devaluation) in
relation to the U.S. dollar amounted to (1.6)%, 6.8% and (8.2)% for the years ended
December 31, 2004, 2005 and 2006, and to (4.5%) for the five-month period ended May 31,
2007.

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Security, political and
economic instability in Israel may impede our ability to operate and harm our financial
results.

Our
principal executive offices and research and development facilities are located in Israel.
In addition, a portion of our sales is made to customers in Israel. Accordingly, security,
political and economic conditions in Israel may directly affect our business. Over the
past several decades, a number of armed conflicts have occurred between Israel and its
Arab neighbors. Any hostilities involving Israel or the interruption or curtailment of
trade between Israel and its present trading partners could affect adversely our
operations. From October 2000 until recently, terrorist violence in Israel increased
significantly and negotiations between Israel and Palestinian representatives effectively
ceased. In February 2006, Hamas, a radical Islamic organization, won the Palestinian
Parliament elections. In July and August 2006, significant fighting took place between
Israel and Hezbollah in Lebanon, resulting in rockets being fired from Lebanon up to 50
miles into Israel. There can be no assurance that the recent relative calm will continue.
Increased hostilities, future armed conflicts, political developments in other states in
the region, or continued or increased terrorism could make it more difficult for us to
conduct our operations in Israel, which could increase our costs and adversely affect our
financial results. Furthermore, several countries still restrict business with Israel and
Israeli companies. These restrictive laws and policies may limit our ability to sell our
products in those countries.

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

Many
of our officers and employees in Israel are obligated to perform annual military reserve
duty and may be called to active duty under emergency circumstances. At various times over
the last five years, there have been significant call-ups of military reservists, and it
is possible that there will be additional call-ups in the future. While we have operated
effectively despite these conditions in the past, we cannot assess what impact these
conditions may have in the future, particularly if emergency circumstances arise. 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 our other employees due
to military service. Any disruption in our operations would harm our business.

The government programs
and tax benefits that we currently receive require us to meet several conditions and may
be terminated or reduced in the future, which would increase our costs and taxes.

We
benefit from certain government programs and tax benefits, particularly as a result of tax
exemptions and reductions resulting from the approved enterprise status of our
manufacturing facilities in Israel. To be eligible for these programs and tax benefits, we
must continue to meet conditions, including making specified investments in property and
equipment and financing a percentage of investments with share capital. If we fail to meet
such conditions in the future, the tax benefits would be canceled and we could be required
to refund the tax benefits already received, together with an adjustment based on the
Israeli consumer price index and an interest factor. These programs and tax benefits may
not be continued in the future at their current levels or at any level. The Israeli
government has reduced the benefits available under some of these programs in recent
years, and Israeli governmental authorities have indicated that the government may further
reduce or eliminate some of these benefits in the future. The termination or reduction of
existing programs and tax benefits could increase our expenses, thereby reducing our
profits or increasing our losses. In addition, the law and regulations prescribing the
benefits provide an expiration date for the grant of new benefits. The expiration date has
been extended several times in the past. The expiration date currently in effect is
December 31, 2007, and no new benefits will be granted after that date unless the
expiration date is extended again. There can be no assurance that new benefits will be
available after December 31, 2007, or that existing benefits will be continued in the
future at their current levels or at any level.

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In
connection with research and development grants received from the Office of the Chief
Scientist of Israel, or the OCS, we must pay royalties to the OCS on the revenue derived
from the sale of products, technologies and services developed with the grant from the
OCS. The terms of the OCS grants and the law pursuant to which grants are made may impair
our ability to manufacture products or transfer technologies developed using OCS grants
outside of Israel. The transfer to a non-Israeli entity of technology developed with OCS
funding, including pursuant to a merger or similar transaction, and the transfer of rights
related to the manufacture of more than ten percent of a product developed with OCS
funding are subject to approval by an OCS committee and to various conditions, including
payment by us to the OCS of a percentage of the consideration paid to us or our
shareholders in the transaction in which the technology is transferred. In connection with
a merger or similar transaction, the amount payable would be a fraction of the
consideration equal to the relative amount invested by the OCS in the development of the
relevant technology compared to the total investment in our company, net of financial
assets that we have at the time of the transaction, but in no event less than the amount
of the grant. In addition, in the event that the committee believes that the consideration
to be paid in a transaction requiring payment to the OCS pursuant to the provisions of the
law described above does not reflect the true value of the technology or the company being
acquired, it may determine an alternate value to be used as the basis for calculating the
requisite payments. These restrictions may impair our ability to enter into agreements for
those products or technologies, without OCS approval. We cannot be certain that any
approval of the OCS will be obtained on terms that are acceptable to us, or at all.
Furthermore, in the event that we undertake a transaction involving the transfer to a
non-Israeli entity of technology developed with OCS funding pursuant to a merger or
similar transaction, the consideration available to our shareholders may be reduced by the
amounts we are required to pay to the OCS.

In
connection with our grant applications, we have made certain representations, including
information provided in periodical performance reports, and we have committed to certain
performance-based covenants. The funding from the OCS is subject to the accuracy of these
representations and covenants and to our compliance with the conditions and restrictions
imposed by the OCS. If we fail to comply with any of these conditions or restrictions, we
could be required to repay any grants previously received, together with an adjustment
based on the Israeli consumer price index and an interest factor in addition to certain
other penalties. In addition, if we fail to comply with any of these conditions or
restrictions, we would likely be ineligible to receive OCS grants in the future. The
inability to receive these grants would result in an increase in our research and
development expenses.

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We may be required to pay
royalties to the OCS in respect of sales since January 1, 2005.

We
believe that the majority of products that we have sold since January 1, 2005 are not
based on technology developed with funds provided by the OCS and that, accordingly, such
sales should not be subject to the payment of royalties to the OCS. Therefore, the royalty
reports we submitted to the OCS for the period starting January 1, 2005 and thereafter
have reflected significantly reduced royalty obligations in comparison to our royalty
reports for the years prior to 2005. In addition, during the second half of 2005 we
initiated a process with the OCS in an attempt to obtain the agreement of the OCS with our
position and to the cessation of our obligation to pay future royalties. Although we
believe we have strong arguments to support our position, we have accrued royalty expenses
in our financial reports for the periods from January 1st, 2005 to March
31st, 2007 in the amount of $1.6 million, but we have not paid any royalties
associated with the products mentioned above to the OCS. In light of the above-mentioned
facts, we intend to consider our next steps with the OCS and whether further royalty
expenses accruals will be necessary. A determination that we are in fact obligated to pay
royalties in respect of sales after January 1, 2005, could negatively impact our liquidity
and if that determination is made after we cease to accrue for any such royalties on our
financial statements or if the amount that we become obligated to pay exceeds the amounts
for which we have accrued in our financial statements, such payments would negatively
impact our earnings.

It may be difficult to
effect service of process and enforce judgments against directors or officers in Israel.

We
are incorporated in Israel. The majority of our executive officers and directors are
located outside the United States, and a majority of our assets and the assets of these
persons are located outside the United States. Therefore, a judgment obtained against us
or any of them in the United States, including one based on the civil liability provisions
of the U.S. federal securities laws, may not be collectible in the United States and may
not be enforced by an Israeli court. Further, if a foreign judgment is enforced by an
Israeli court, it generally will be payable in Israeli currency. It also may be difficult
for you to assert U.S. securities law claims in original actions instituted in Israel
since Israel is not the most appropriate forum in which to bring such a claim. In
addition, even if an Israeli court agreed to hear such a claim, it may determine that
Israeli law and not U.S. law is applicable to the claim. If U.S. law is found to be
applicable, the content of applicable U.S. law must be proved as a fact, which can be a
time-consuming and costly process. Certain matters of procedure will also be governed by
Israeli law.

|Item 4. | Information
on the Company
|------- | --------------------------

# History and development
of the Company

We
design, develop, manufacture, market and support a family of modular, high-performance,
CAD/CAM software products. Our products provide an integrated design through manufacturing
solution for small-to-medium-sized companies and manufacturing divisions of large
corporations, and interface easily with other CAD/CAM systems. They offer high-end
functionality, especially in the areas of design for manufacturing and manufacturing, at
an attractive price/performance ratio. These attributes have made our CAD/CAM products
especially popular in the design and manufacturing segments of the CAD/CAM market,
particularly among mold, tool, die and fixture makers, as well as discrete part
manufacturers. We focus our research and development efforts on providing complete design
through manufacturing solutions to the specific needs of this market segment. We are
committed to providing mold, tool, die and fixture makers and discrete part manufacturers
with comprehensive, cost-effective CAD/CAM solutions that streamline manufacturing cycles,
enable collaboration with outside vendors and shorten delivery time.

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In
July 2005 we acquired 27.5% of the shares of Microsystem Srl, our Italian distributor, for
575,000 Euro. Under the agreement, we also received an option to acquire up to 100% of
Microsystem from Microsystems shareholders and Microsystems shareholders
received an option to require us to purchase 49% of Microsystems share capital under
specific circumstances. In May 2007 our board of directors approved the exercise of our
option to increase our holdings in our Italian distributor to 51%, which increase is
scheduled to take effect during the first week of July 2007. See Item 5. Operating
and Financial Review and Prospects  Overview for additional details regarding
the transaction with Microsystem and the options received both by us and
Microsystems shareholders. The transaction was designed to significantly enhance
Microsystems financial position and balance sheet, and to strengthen our leading
position in Italy, one of our key markets in Western Europe. Under the terms of the
agreement, Microsystems marketing, sales, and support groups remained in their
current offices throughout Italy, nevertheless, in the last two years Microsystem went
through a comprehensive restructuring and turnaround.

During
August 2006, we acquired the remaining 69.83% of the outstanding shares of KCT Co. Ltd,
our South Korean provider for approximately $225,000 plus an additional payment subject to
collection of certain receivables, following which such provider became our wholly owned
subsidiary.

Our
full name is Cimatron Ltd. and we were incorporated under Israeli law in 1982. Our
corporate headquarters are located at 11 Gush Etzion Street, Givat Shmuel 54030, Israel.
Our telephone number is 972-3-531-2121 and our web site is located at
www.cimatron.com. Our U.S. agent is Cimatron Technologies, Inc., with an address at
26800 Meadowbrook Road, Suite 113, Novi, Michigan 48377

# Industry Background

Manufacturers
worldwide face ever-increasing pressures to produce high-quality and increasingly complex
products in the shortest time possible and at minimum cost. To meet these demands and keep
pace with market changes, production commitments and the need for product differentiation,
companies are increasing their reliance on CAD/CAM software tools to automate the
designing, drafting and manufacturing of their products.

The
development process for the mechanical design and manufacturing of products generally
includes the following steps:

| |  | conceptual
design of the product and its components;
| | - | ----------------------------------------------------

| |  | tool
design and detailed design for manufacturing;
| | - | --------------------------------------------------

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| |  | creating
the toolpath data in the form of numerical control, or NC, codes that provide the
instructions for a machine to cut a part according to specifications received; and
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | manufacturing
the product.
| | - | --------------------------

The
earliest users of CAD/CAM systems were dedicated design and engineering departments of
large organizations that could afford the cost and complexity of high-end
CAD/CAM systems. These systems were used by highly trained designers and engineers, who
were responsible for a particular portion of the manufacturing process. The systems also
generally operated on mainframe computers or high-end workstations which often required
many months to master. To improve efficiency, large corporations that operate with
high-cost, highly complex CAD/CAM systems have increasingly outsourced a portion of the
design and manufacturing process to subcontractors.

This
created a large market need for easier-to-use, less programming-intensive CAD/CAM
solutions that operate on different hardware and operating systems and interface with a
variety of software systems. In addition, as a result of continuing market pressure and
technological changes, including personal computers offering improved price and
performance, divisions of large companies also shifted towards CAD/CAM software providing
more cost-effective solutions and shorter learning curves which could co-exist in the
corporate design and manufacturing environment. However, while many of these systems were
designed to provide advanced conceptual design capabilities, they were more limited in
their detailed design for manufacturing and toolpath creation capabilities. As a result,
they did not meet the needs of users involved in manufacturing the process, such as mold,
tool, die and fixture makers.

At
the other end of the market were low-cost, dedicated toolpath creation software products,
which were limited in their design capabilities. These limitations caused the process of
taking data regarding the conceptual design of the product and creating a detailed design
for manufacturing to remain largely manual. As a result, subcontractors and manufacturing
divisions of large corporations were hampered in their ability to take complex conceptual
designs received from the design departments of the manufacturer and produce appropriate
molds, tools, dies or fixtures in a timely manner. As a result, an increasing number of
these subcontractors and manufacturing divisions have begun or are continuing to seek
comprehensive design through manufacturing automation solutions to compete more
effectively.

These
trends have created a market for an integrated CAD/CAM system which is geared towards
small-to medium-sized subcontractors or divisions of large corporations involved in the
manufacturing process, particularly mold, tool, die and fixture makers. These users have a
unique set of needs that have generally not been met by traditional CAD/CAM systems.

The
CAD/CAM software industry that developed in response to these needs is highly fragmented
and characterized by many relatively small and privately owned companies. We believe that,
due to the large number of companies that operate in this market, we do not have a single
major competitor or a group of competitors. The principal factors permitting our products
to compete successfully against our competitors products are:

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| |  | the
 compatibility  of our products with other  software  applications  and existing and
emerging         industry standards;
| | - | -----------------------------------------------------------------------------------------------------------------------------

| |  | our
ongoing product and feature development;
| | - | --------------------------------------------

| |  | the
offering of unique innovative products to the tooling and manufacturing industries;
| | - | ---------------------------------------------------------------------------------------

| |  | the
level of our product breadth and integration;
| | - | -------------------------------------------------

| |  | the
technical expertise and support that we provide;
| | - | ----------------------------------------------------

| |  | the
flexibility of our products;
| | - | --------------------------------

| |  | the
reputation we maintain among certain  independent  distributors of our products,  to
which we         refer as Providers; and
| | - | ---------------------------------------------------------------------------------------------------------------------------------

| |  | the
relatively low overall price and total cost of ownership of our products combined with
the high-end capabilities of our products.
| | - | -------------------------------------------------------------------------------------------------------------------------------------

# Business Overview

# Principal Operations,
Products and Developments

Cimatron
E

Cimatron E, our current generation of
CAD/CAM solutions for the tooling and production industries, was initially released in
September 2001. We released our newest version of the Cimatron E (Version 8.0) in March
2007. Cimatron E provides comprehensive tools, applications and process-automation
solutions for the tooling and manufacturing industries.

With Version 8 of Cimatron E,
Cimatron helps toolmakers and manufacturers of complex discrete parts step up to new
levels of productivity, introducing breakthrough improvements such as:

| |  | A
new application for progressive die design, covering the entire spectrum of quoting,
strip design, tool design, and manufacturing, compressing weeks of work into days;
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | New
automated drilling capabilities, reducing programming time by up to 80%;
| | - | ----------------------------------------------------------------------------

| |  | NC-Preview
 functionality,  presenting  machining  results in a matter of seconds and eliminating
         errors early in the process;
| | - | ---------------------------------------------------------------------------------------------------------------------------------------

| |  | Concurrent
mold design and the ability to handle mega-size molds, allowing multiple users to work on
the same assembly with increased speed and ease; and
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | New
enhancements in 5-Axis Production, delivering higher performance and better user control.
| | - | ---------------------------------------------------------------------------------------------

Cimatron
E encompasses a set of powerful and easy-to-use 3D design tools. The unified
solid-surface-wireframe environment allows the user to manipulate important data or create
conceptual part designs with equal ease. In the design process, Cimatron E integrates
tools to split part geometry, find and implement changes, create electrodes and inserts,
and detail tooling components. During manufacturing, Cimatron E implements 2.5 to 5 axis
toolpaths using high-speed machining, knowledge of stock remaining and templates to reduce
programming and machine time. The mission critical tasks of splitting the model, applying
engineering changes, and extracting electrodes and inserts are all handled by
Cimatrons Quick Tooling wizard-based applications.

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Cimatron
E communicates with most other CAD/CAM systems, runs on personal computers, as well as
engineering workstations employing Windows based operating systems (which are the primary
operating systems used for the personal computer and workstation platforms on which our
products are used) and transfers data easily and reliably among different hardware and
software environments.

Cimatron
E is built around a set of compatible modules using a unified database, which
can be accessed and modified for all applications. Users can move easily among wireframe,
surface and solid models choosing the application most appropriate for a specific job.
Cimatron E enables the user to work top-down (i.e., beginning at the conceptual
level and moving down to subassemblies and individual parts) or bottom-up (i.e.,
modeling elements first and then grouping them into assemblies), and permits the user to
combine the two approaches. Cimatron E stores product data hierarchically to ensure
overall structural integrity of the product and the ability to interface with engineering
data management systems. Cimatron Es CAM applications operate directly on the design
model to generate intelligent toolpaths for NC manufacturing processes and enable fast and
accurate graphic simulation of NC operations. In addition, Cimatron E includes advanced
data exchange interfaces, which enable the transfer of CAD/CAM data between ourselves and
other CAD/CAM systems through industry standard interfaces, as well as several dedicated
interfaces. Cimatron E offers an intuitive and consistent user interface throughout all
applications (e.g., design, drafting and NC). Since all applications have the same
look and feel, there is no need for the user to relearn the operation of the system with
each module. Cimatron Es architecture is based upon a software kernel, which
includes database utilities, the graphic sub-system and the user interface, which provide
the operating environment for all applications. Applications are separate from the
software kernel, which facilitates enhancement of the applications, reduces development
and maintenance costs and enables efficient technological updates to the systems
components, without affecting the application base.

The
Cimatron E product family includes the following basic modules:

# Designer Solution

Designer Solution is a CAD-only
solution. It provides users with full 3D design and modeling capabilities, as well as
fully associative 2D drawing and sketching functions. Designer Solution includes a hybrid
3D wireframe, surfaces and solid modeler, with full assembly support. Designer Solution
includes SAT, STL, PFM and one DI optional module (DWG, DXF or VDA).

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# NC Solution

NC Solution is a manufacturing-only
solution. This base solution offers comprehensive milling, drilling, simulation and
verification capabilities up to 2.5 axes + 2X Positioning. NC Solution provides access to
a wide range of CAD capabilities necessary to undertake any NC job. The system includes
tool libraries and a post processor. NC Solution includes SAT, STL, PFM and one DI
optional module (DWG, DXF or VDA).

# Master Solution

Master Solution includes all features
of the Designer Solution and the NC Solution integrated into an end-to-end system,
providing the tools and capabilities users need for designing and manufacturing complex
CAD/CAM projects. Master Solution includes SAT, STL, PFM and one DI optional module (DWG,
DXF or VDA)

# Electrode Solution

Electrode Solution includes all the
tools necessary to create and design EDM electrodes out of a given part model, including
the industry leading QuickElectrode application. Electrode Solution comes complete with a
choice of one DI optional module (IGES, STEP or VDA). The Electrode Solution is
competitively priced in comparison with a similar general purpose configuration.

# Electrode Pro Solution

Electrode Pro Solution includes the
tools necessary to create, design and manufacture EDM electrodes, including the industry
leading QuickElectrode application and full 3X milling tools. Electrode Pro Solution comes
complete with a choice of one DI module (IGES, STEP or VDA). The Electrode Pro Solution is
competitively priced in comparison with a similar general purpose configuration.

# Student Package

The Cimatron Student Package is a
limited Cimatron package for students home use. The package covers most of Cimatron
Es capabilities, and enables execution of small non-commercial projects. CAD modules
include the following: Wire-frame, Surfacing and Solid part Modeling; Assembly; Drafting;
Sketcher; Catalog Tools; QuickSplit; QuickCompare; QuickElectrode; and MoldDesign. CAM
modules include 2.5X  3X milling and 3X simulator. The system includes read-only
Data Interface for IGES, VDA, STEP, DXF, and DWG. The package is protected via software
mechanism and does not require a hardware protection plug.

# View Only System

View Only System provides tools to
view and check CAD/CAM projects. The system includes powerful 3D modeling and drafting
capabilities, as well as key Cimatron modules, such as QuickSplit, QuickElectrode and
viewing of 2.5X  3X milling, including the 3X simulator. No save is
possible with a View Only system. The system includes read-only translators to all leading
standard formats: DXF, DWG, IGES, STEP, VDA, SAT, STL, and PFM.

In
addition, the Cimatron E product family includes the following optional vertical
applications, optimized for manufacturing:

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# Mold Design

A complete Mold Design vertical
application based on hybrid 2D/3D technology. Mold Design automates the mold base and
component design process, and offers an innovative parametric and fully associative
approach to the mold housing design process. Optimized applicative tools support the
various mold design sub-systems, such as Cooling, Ejection, Sliders and Lifters and
Inserts.

# Die Design

The Die Design application allows the
user to create complex strips for progressive dies, as well as transfer dies. It offers
analysis tools, nesting and strip layout tools, and many advanced forming tools (bend,
unbend, twist, unfold and more) that allow the creation of intermediary shapes that form
the strip. In addition it includes a set of tools that help the user create and locate a
complex array of trimming punches on the strip.

Following Strip Design, the
application allows the user to build the die tool around the strip. It includes tools for
creation of die sets as well as trimming and forming punches and other die components.

# Quick Electrode

QuickElectrode is an EDM electrode
design package used to automate the whole electrode process. QuickElectrode is used for
burn area selection, electrode design, management, documentation and manufacturing. It
also includes the generic EDM Setup utility, which exports burning parameters from Quick
Electrode.

# ECO Manager

This is a complete Change Management
application. It contains interactive tools that automatically compare between two geometry
sets to identify engineering changes. It marks and displays the differences and changes,
and saves the results in different file levels, supporting multiple ECO handling.

# 5 Axes Production

Complete package for 5X milling and
drilling, including 5X Rough, finish and local operations. Ideal for complex tasks, such
as milling inlets and impelers, 5X Production is mainly used for discrete part
manufacturing in demanding industries, such as Aerospace.

# Micro-Milling

Dedicated NC application for milling
miniature high precision parts, with sub-micron tolerances. Micro Milling allows the use
of all Cimatron NC procedures with very small tools and for very fine geometry. Micro
milling is supported in 3X and 5X configurations.

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# Marketing and
Distribution

We
employ a broad range of marketing activities to promote our products and develop name
recognition and visibility. We use print and online advertising, trade shows, seminars,
direct mail, online promotions, and regional marketing development in an effort to further
penetrate the tooling and manufacturing segments of the CAD/CAM market. In addition to
online promotions, we use the Internet as a marketing tool that increases our visibility
in the marketplace, offers downloadable product demonstrations and facilitates
communication between our clients and us.

Additionally,
we have been increasing our penetration to the target market of mold, tool, die and
fixture makers, as well as discrete part manufacturers, in an effort to become the lead
supplier of CAD/CAM solutions to these segments of the manufacturing market. Our strategy
involves examining the functionality of current and future products through in-depth
focus-meetings with mold, tool, die fixture and discrete part makers, thereby making
customers partners in the development of custom solutions for these market segments.

We
distribute our products to end-users in approximately 35 countries in five continents
through certain of our subsidiaries, directly in Israeland through a
network of independent Providers. Between us, our subsidiaries and our Providers, our
family of products is currently supported at over 8,500 customer sites with more than
20,000 installations.

Providers

We
believe that our Providers are technically competent in the mechanical engineering and
manufacturing aspects of CAD/CAM markets and offer a full range of sales, service and
support functions. Providers assume overall responsibility for the integrity of each
end-user customers CAD/CAM system in their respective territories, including
selling, installation, training and maintenance. Providers are carefully selected on the
basis of their ability to distribute and service our entire product line, with special
emphasis on the ability of their engineering and sales teams to provide customer support.

We
furnish our Providers with technical guidance and marketing and sales resources. Providers
regularly visit our Israeli headquarters, while our employees from various departments
visit Provider sites. Our relationship with our Providers is further enhanced by an annual
international conference that we organize, regional workshops and cooperative exhibitions,
and participation in local user meetings.

Providers
serve as an integral part of our marketing and service network around the world. They give
our products a local feel by (a) offering technical support in the
end-users native language, (b) being available to attend to customer needs
during local business hours, (c) translating our manuals, product and marketing
literature into the local language and (d) frequently organizing user programs and
seminars. Providers continually develop new ways to adapt and enhance our products to meet
their respective customers regional and company-specific needs.

24

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A
typical agreement with a Provider is for a term of two years (subject to rolling two-year
extensions). Our Providers are distributors and our agreements with them enable the
Providers to purchase our products at a discounted price. Certain of our Providers act as
our exclusive distributors in a single country or region. Other than our Providers in
Italy and Japan, no Provider accounted for more than 2.5% of our total revenue for the
year ended December 31, 2006. In July 2005 we acquired 27.5% of our Italian Provider
and an option to purchase its remaining outstanding shares from its stockholders. In May
2007 our board of directors approved the exercise of our option to increase our holdings
in our Italian distributor to 51%, which increase is scheduled to take effect during the
first week of July 2007. This holding increase will change its statues from an independent
provider to a subsidiary.

There
can be no assurance that all existing relationships with our Providers will be renewed. We
believe that with the exception of our Provider in Japan, the termination of our
relationship with a single Provider would not harm us materially; however, the termination
of our relationship with several of our Providers at approximately the same time or with
our Provider in Japan could seriously harm us. There can be no assurance that, in the
event that we lose any of our Providers, we will be successful in recruiting replacement
professional and technically competent Providers.

Subsidiaries

Our
strategy over the years has been to increase our direct involvement in certain key markets
in which we felt the Providers were not maximizing the business opportunities, through the
formation or acquisition of marketing and support subsidiaries. In furtherance of this
strategy, we have incorporated subsidiaries in France, Japan, United Kingdom, China, as
well as India, where we formed a subsidiary at the end of 2005 that started commercial
activities during the second quarter of 2006. We have also acquired all of the outstanding
voting interests in Cimatron Technologies, Inc., our North American Provider, and have had
our German subsidiary, Cimatron GmbH, purchase all of the Cimatron-related business of our
German Provider. During August 2006, we acquired the remaining 69.83% of the outstanding
shares of our Korean provider following which it became a wholly owned subsidiary. In
January 2005 we announced the formation of Cimatron Guangzhou, a new joint venture in
Guangzhou, China, with SGV, a distributor of our products since 1998. In late 2006 we
transferred our business activity in France to an independent provider and practically
stopped the activity of our French subsidiary. During April 2007 we began a process of
transitioning our business activity in the United Kingdom from our United Kingdom
subsidiary to an independent provider with the intent of achieving greater efficiencies in
our United Kingdom business. See Item 5. Operating and Financial Review and
Prospects  Overview for additional details regarding the transaction with
Microsystem, our Italian provider and our anticipated increase in holdings thereof.

# Customers

Our
end-users are typically small to medium-sized companies involved in the mechanical
engineering and manufacturing industry, subcontractors that supply major corporations
within the core mechanical engineering and manufacturing industry and departments or
divisions within these major corporations. Our customers are located in
approximately 35 countries worldwide.

25

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In
the years ended December 31, 2006, 2005 and 2004, approximately 52%, 51% and 57%,
respectively, of our revenues were from Europe; approximately 7%, 8% and 8%, respectively,
of our revenues were from Israel; approximately 23%, 22% and 19%, respectively, of our
revenues were from the Far East; approximately 17%, 18% and 15%, respectively, of our
revenues were from North America; and approximately 1%, 1% and 1%, respectively, of our
revenues were from other countries.

# Geographical Breakdown
of Our Revenue

The
following tables represent a geographical breakdown of our revenues from products and
services from the last three years (in thousands of U.S. dollars):

2006

|Geographical Region | Products | Services
|------------------- | -------- | --------
|
|
|
|
|Europe              |          |         
|Israel              |          |         
|Far East            |          |         
|North America       |          |         
|Other               |          |         
|Total               |          |         

2005

|Geographical Region | Products | Services
|------------------- | -------- | --------
|
|
|
|
|Europe              |          |         
|Israel              |          |         
|Far East            |          |         
|North America       |          |         
|Other               |          |         
|Total               |          |         

26

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2004

|Geographical Region | Products | Services
|------------------- | -------- | --------
|
|
|
|
|Europe              |          |         
|Israel              |          |         
|Far East            |          |         
|North America       |          |         
|Other               |          |         
|Total               |          |         

Other
than our Provider agreements and certain maintenance contracts with customers in Israel,
we currently have no significant long-term contracts with any customer and sales are
generally made pursuant to purchase orders received from distributors.

# Potential Fluctuations
in Operating Results; Seasonality

Potential
Fluctuations in Operating Results

See
Item 3  Risk Factors  We may experience significant fluctuations in our
quarterly results, which makes it difficult for investors to make reliable
period-to-period comparisons and may contribute to volatility in the market price for our
ordinary shares for a discussion of factors which may cause annual or quarterly
fluctuations in the results of our operations.

Seasonality

We
sell our products to corporations and our sales are therefore subject to the fiscal and
budgeting cycles of these corporations. Accordingly, a large percentage of our sales occur
in the fourth quarter, while sales in the third quarter are traditionally the lowest due
to the summer vacations and in the first and second quarters sales are slower than in the
fourth quarter but higher than in the third quarter.

# Organizational Structure

Our
principal shareholders, Koonras and DBSI, hold 2,560,360 and 2,565,950 shares,
representing approximately 31.84% and 31.91% of our outstanding share capital,
respectively. Koonras and DBSI have entered into an agreement by which a number of their
shares equal to, or greater than, 25.05% of our issued and outstanding share capital
cannot be sold by either party without first offering such holding to the other party.
Additionally, under such agreement, in the event that the selling partys offer is
refused, the other party shall then have the right to participate, pro-rata, with the
selling party in the sale of its shares to a third party. Additionally, Koonras and DBSI
have agreed that they will each appoint half of our directors, not including our external
directors required to be appointed under Israeli law and independent directors required to
be appointed under the Nasdaqs listing qualifications, and that they will vote
together at our shareholders meetings.

27

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For
information about Cimatrons subsidiaries and its beneficial ownership therein, see
Exhibit 8.1.

Property,
Plants and Equipment

We
do not own any real property. We lease the office premises that we occupy in Givat Shmuel,
Israel from a private commercial property owner pursuant to the terms of a lease agreement
we entered into in February 2003. Until January 2006 we occupied an aggregate of
approximately 2.100 square meters at this facility. As of January 10, 2006, we occupy
approximately 1,750 square meters at this facility. In 2006, the aggregate annual lease
payments for the office premises were approximately $255 thousand. The initial term of
this lease ended on June 30, 2006 and wehave exercised our option to extend the
lease for an additional three years.

The
following table represents a breakdown of our approximate aggregate annual lease payments
for office premises worldwide for the year 2006 (in thousands of U.S. Dollars):

|ENTITY                    | LOCATIONS | APPROXIMATE ANNUAL EXPENSE
(in thousands of US$)
|------------------------- | --------- | ------------------------------------------------
|
|
|
|
|Headquarters in Israel    |           |                                                 
|                          |           |                                                 
|North American subsidiary |           |                                                 
|                          |           |                                                 
|German subsidiary         |           |                                                 
|                          |           |                                                 
|French subsidiary         |           |                                                 
|                          |           |                                                 
|UK subsidiary             |           |                                                 
|                          |           |                                                 
|Japanese subsidiary       |           |                                                 
|                          |           |                                                 
|Chinese subsidiaries      |           |                                                 
|                          |           |                                                 
|                          |           |                                                 
|                          |           |                                                 
|                          |           |                                                 
|                          |           |                                                 
|                          |           |                                                 
|Korean subsidiary         |           |                                                 
|                          |           |                                                 
|Indian subsidiary         |           |                                                 
|                          |           |                                                 
|                          |           |                                                 
|                          |           |                                                 

*  These offices
are responsible for our marketing efforts in Canada as well.

28

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|Item 5. | Operating
and Financial Review and Prospects
|------- | --------------------------------------------

# Overview

We
design, develop, manufacture, market and support a family of modular, high-performance,
CAD/CAM software products. Our products provide an integrated design through manufacturing
solution for small-to-medium sized companies and manufacturing divisions of large
corporations, and interface easily with other CAD/CAM systems.

In
July 2005 we acquired 27.5% of the shares of Microsystem Srl, our Italian distributor, for
575,000 Euro, and an option, which we refer to as the First Call Option, to acquire up to
additional 23.5% of Microsystem from Microsystems shareholders. In May 2007 our
board of directors approved the exercise of this option at the stated exercise price of
$599,250. The exercise is scheduled to take effect during the first week of July 2007. In
addition, upon exercise of the First Call Option we will have a second option, which we
refer to as the Second Call Option, to acquire up to the remaining 49% of
Microsystems share capital, for an exercise price of approximately $1.25 million.
The Second Call Option is exercisable at any time within a thirty-day period, which we
refer to as the Second Option Exercise Period, starting on the twelve month anniversary of
our exercise of the First Call Option. In addition, once we exercise the First Call
Option, any remaining other shareholders of Microsystem will have an option to require us
to purchase, at any time during the Second Exercise Period, 49% of Microsystems
share capital, for consideration of approximately $1.25 million. We have accounted for the
original acquisition under the equity method and accordingly, as of July 1, 2005 we
commenced recording our share of Microsystemss profits or losses in our consolidated
financial statements. Once we exercise the First Call Option and increase our holding in
Microsystem to 51%, we will fully consolidate the results of Microsystem, subject to
exclusion of minority interest. This change is expected to take place in the third quarter
of 2007.

During
August 2006, we acquired the remaining 69.83% of the outstanding shares of KCT Co. Ltd,
our South Korean provider for approximately $225,000 plus an additional payment subject to
collection of certain receivables, following which such provider became our wholly owned
subsidiary.

We
released our newest version of the Cimatron E (Version 8.0) in March 2007, to include
significant improvements such as a new application for progressive die design, new
automated drilling capabilities, NC-Preview functionality, concurrent mold design and the
ability to handle mega-size molds, and new enhancements in 5-Axis Production.

29

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Revenues

We
derive revenues mainly from (a) sale of our products, including software and hardware
components, and (b) services which include primarily maintenance fees and the provision of
technical support for our software products and, to a lesser extent, fees from the
provision of engineering, training, consulting and implementation services. Revenues from
sales of our products are generated by a relatively large number of sales and no one
customer accounts for a material portion of our revenues. We provide maintenance services
pursuant to maintenance contracts, which either provide for annual maintenance fees or for
the payment of maintenance fees upon the provision of upgrades to our products. Generally,
maintenance contracts are for a one-year term. It has been our experience that most of our
customers who purchase maintenance contracts elect to receive maintenance services from us
on a continuing basis. While customers in most markets do purchase maintenance services
from us, our customers in the Far East (other than in Japan) generally do not purchase
maintenance but instead purchase product upgrades on a case-by-case basis.

Cost
of Revenues

Our
cost of revenue consists of five major components: (a) the cost of our Israel-based
operations, which include primarily salaries (mostly for technical support personnel),
subcontractors and facilities costs, (b) hardware costs in Israel and in our
subsidiaries, (c) royalties payable to third parties for third party software and
maintenance, (d) royalties payable to the Israeli Office of the Chief Scientist and (e)
amortization of capitalized software development costs.

Software
Development Costs

Costs
for the development of new software products and substantial enhancements to existing
software products are expensed as incurred until technological feasibility has been
established, at which time any additional development costs are capitalized. Based on our
product development process, technological feasibility is established upon completion of a
working model. Any capitalization of software development costs continues up to the time
the software is available for general release to customers. However, during 2004 and 2006
costs incurred between the completion of the working model and the point at which the
products were ready for general release were insignificant. Therefore, all research and
development costs incurred in 2004 and 2006 have been expensed. In 2005 we capitalized
approximately $0.2 million in connection with the development of Cimatron E 7.0.

Primary
and Reporting Currency

We
market and sell our products and services in Europe, the Far East, North America and
Israel and derive a significant portion of our revenues from customers in Europe and Asia.
A majority of our revenues in 2004, 2005 and 2006 were from customers in Europe. Since our
financial results are reported in U.S. dollars, decreases in the rate of exchange of
non-U.S. dollar currencies in which we make sales relative to the U.S. dollar will
decrease the U.S. dollar-based reported value of those sales. To the extent that decreases
in exchange rates are not offset by a reduction in our costs, they may in the future
materially adversely affect our results of operations.

30

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Our
reporting currency is the U.S. dollar while a portion of our expenses, principally
salaries and the related personnel expenses are in new Israeli shekels, or NIS. As a
result, we are exposed to the risk that the rate of inflation in Israel will exceed the
rate of devaluation of the NIS in relation to the U.S. dollar or that the timing of this
devaluation lags behind inflation in Israel. This would have the effect of increasing the
U.S. dollar cost of our operations. In 2005 and 2006 the rate of devaluation of the NIS
against the U.S. dollar exceeded the rate of inflation. In 2004 there was inflation
coupled with a devaluation of the U.S. dollar against the NIS. During the first five
months of 2007 the US Dollar has continued to devaluate against the NIS. If the U.S.
dollar cost of our operations in Israel increases, our U.S. dollar-measured results of
operations will be adversely affected.

See
- Liquidity and Capital Resources  Impact of Inflation and Devaluation on
Results of Operation, Liabilities and Assets for information relating to our policy
of hedging against currency fluctuations.

# Critical Accounting
Policies

The
discussion and analysis of our financial condition and results of operations are based
upon our consolidated financial statements, which were prepared in accordance with U.S.
GAAP. The preparation of these financial statements requires us to make estimates and
judgments that affect the reported amounts of assets, liabilities, revenues and expenses,
and related disclosure of contingent assets and liabilities. We evaluate these estimates
on an on-going basis. We base our estimates on our historical experience and on various
other assumptions that we believe to be reasonable under the circumstances, the results of
which form the basis for making judgments about the carrying amount values of assets and
liabilities that are not readily apparent from other sources. Actual results may differ
from these estimates under different assumptions or conditions.

We
believe that application of the following critical accounting policies entails the most
significant judgments and estimates used in the preparation of our consolidated financial
statements.

Revenue Recognition

We
recognize revenues in accordance with the American Institute of Certified Public
Accountants Statement of Position 97-2, Software Revenue Recognition, as amended.

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Revenues
from software license fees are recognized when persuasive evidence of an arrangement
exists, the software product covered by written agreement or a purchase order signed by
the customer has been delivered, the license fees are fixed and determinable and
collection of the license fees is considered probable. When software arrangements involve
multiple elements we allocate revenue to each element based on the relative fair values of
the elements. Our determination of fair value of each element in multiple element
arrangements is based on vendor-specific objective evidence (VSOE). We limit
our assessment of VSOE for each element to the price charged when the same element is sold
separately.

In
judging the probability of collection of software license fees we continuously monitor
collection and payments from our customers and maintain a provision for estimated credit
losses based upon our historical experience and any specific customer collection issues
that we have identified. In connection with customers with whom we have no previous
experience, we may utilize independent resources to evaluate the creditworthiness of those
customers. For some customers, typically those with whom we have long-term relationships,
we may grant extended payment terms. We perform on-going credit evaluations of our
customers and adjust credit limits based upon payment history and the customers
current creditworthiness, as determined by our review of their current credit information.
If the financial situation of any of our customers were to deteriorate, resulting in an
impairment of their ability to pay the indebtedness they incur with us, additional
allowances may be required.

Our
software products do not require significant customization or modification. Service
revenues include consulting services, post-contract customer support and maintenance and
training. Consulting revenues are generally recognized on a time and material basis.
Software maintenance agreements provide technical customer support and the right to
unspecified upgrades on an if-and-when-available basis. Post-contract customer support
revenues are recognized ratably over the term of the support period (generally one year)
and training and other service revenues are recognized as the related services are
provided. Deferred revenues represent mainly amounts received on account of service
agreements.

Our
sales are made pursuant to standard purchase orders, containing payment terms averaging
between 30  120 days. For some customers with whom we have long-standing
relationships and based on past experience with those customers and the same software
products, we may grant payment terms of not over 180 days. Any payment terms that exceed
180 days must be approved by our Chief Financial Officer prior to the signing of any
purchase order.

Our
arrangements do not include any refund provisions nor are payments subject to milestones.
In addition, substantially all of our arrangements do not contain customer acceptance
provisions.

We
have no significant expenditures relating to either warranties or post-contract customer
support bundled with the initial sale of the software license and, therefore, other than a
provision of approximately $64,000, no provision in respect of warranties or post-contract
customer support is included in our financial statements.

32

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Allowance
for Doubtful Accounts

We
evaluate the collectability of our accounts receivable based on a combination of factors.
In circumstances where we are aware of a specific customers inability to meet its
financial obligations to us (e.g. bankruptcy filings, substantial down-grading of credit
ratings), we record a specific reserve for bad debts against amounts due to reduce the net
recognized receivable to the amount we reasonably believe will be collected. For all other
customers, we recognize reserves for bad debts based on the length of time the receivables
are past due and on our historical experience in collecting such receivables.

# Operating Results

|                                                  | December 31,
|------------------------------------------------- | ------------
|
|
|
|
|Statement of Income Data:                         |             
|Revenue:                                          |             
|                                                  |             
|Products                                          |             
|Services                                          |             
|                                                  |             
|Total                                             |             
|                                                  |             
|Cost of revenue:                                  |             
|Products                                          |             
|Services                                          |             
|                                                  |             
|Total                                             |             
|                                                  |             
|Gross profit                                      |             
|                                                  |             
|Research and development costs                    |             
|Selling, general and administrative  expenses.    |             
|                                                  |             
|Operating income (loss)                           |             
|Financial income (expenses), net                  |             
|Other income (expenses)                           |             
|                                                  |             
|Income (loss) before taxes                        |             
|Taxes on income                                   |             
|                                                  |             
|Income (loss) after income taxes                  |             
|Company's equity in results of affiliated company |             
|Minority interest in results of subsidiary        |             
|                                                  |             
|Net income (loss)                                 |             
|                                                  |             
|Net income (loss) per share (basic and diluted)   |             
|                                                  |             
|Weighted average number of shares outstanding.    |             
|                                                  |             

33

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|                                                        | December 31,
|------------------------------------------------------- | ------------
|
|
|
|
|Balance Sheet Data                                      |             
|Cash and cash equivalents                               |             
|Short-term investments                                  |             
|                                                        |             
|Total cash, cash equivalents and short-term investments |             
|Long term marketable investments                        |             
|Working capital                                         |             
|Total assets                                            |             
|Total liabilities                                       |             
|Shareholders' equity                                    |             

Revenue

Our
total revenues increased to approximately $21.5 million in 2006 from approximately $20.9
million in 2005 and decreased from approximately $23.1 million in 2004. Our revenues from
the sale of products increased to approximately $9.6 million in 2006 from approximately
$9.0 million in 2005 and decreased from approximately $11.4 in 2004. The increase in the
sale of products in 2006 was mainly due to an increase of approximately $0.2 million in
sales in Europe, which was in part due to the higher Euro  dollar exchange rate, and
an increase of approximately $0.5 million in sales in the Far-East, as we continue our
efforts to penetrate the emerging markets in this region. Such increases were partially
offset by decreases of sales in other regions. As 51% of our 2006 revenues were derived
from European countries, changes in the Euro  dollar exchange rate can significantly
influence our revenues. Although the Euro  dollar exchange rate in 2005 was lower
than in 2006, it did not have a significant influence on our 2006 results of operations as
compared to 2005, due to the fact that the influence of low rate in 2005 was partially
offset by the influence of Euro  dollar options we had during 2005. We expect the
Euro  dollar exchange rate to have an increasing influence on our revenues and
results of operation after we begin consolidating Microsystems financial results
with ours, as substantially all of Microsystems revenues are Euro-denominated. The
decrease in the sale of products in 2005 as compared to 2004 was mainly due to a decrease
of 37.3% in sales in Europe. In addition, 5% of the decrease in sales revenues was due to
the fall in the Euro  dollar exchange rate. Total revenues in 2005 were primarily
influenced by mold, tool, die and fixture makers in Europe, migrating their operations to
low cost labor markets in the Far East, which markets are also characterized by lower
prices and by higher usage of pirated copies of software products. While we believe that
this trend may continue, we have adjusted our European strategy slightly in order to
increasingly focus on penetrating the high end European market, in which such migration is
less frequent. In addition, we have increased our sales efforts in China and in other
emerging markets, in order to, among others things, attempt to set off the decreases in
Europe. As a percentage of revenues, our revenues from the sale of products decreased from
approximately 49.1% in 2004 to approximately 42.9% in 2005 and increased to approximately
45% in 2006. Our revenues from services decreased in 2006 to approximately $11.8 million
from approximately $12.0 million in 2005 and were similar to approximately $11.8 million
in 2004. As a percentage of revenues, our revenues from services increased from
approximately 50.9% in 2004 to approximately 57.1% in 2005 and decreased to approximately
55% in 2006.

34

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Cost
of Revenue

Cost
of revenue decreased in 2006 to $3.6 million, from approximately $4.9 million in 2005 and
$4.6 million in 2004. The decrease in 2006 resulted mainly from the implementation of a
cost reduction plan in the second half of 2005. The overall increase in costs of revenue
in 2005 was due to our write-off of capitalized software development expenses in the
amount of $0.8 million, which was offset by a decrease in all other components of our
costs revenue, in line with the decrease in product sales. Cost of revenues in 2004
included an increase in royalties to the OCS in the amount of $0.2 million, which offset a
decrease in the amount of $0.2 million in salaries and employee benefits.

Gross
Profit

Gross
profit, as a percentage of total revenue, was 83.1%, 76.4% and 80.1% in 2006, 2005 and
2004, respectively. The increase in percentage in 2006 resulted mainly from our cost
reduction plan implemented during the second half of 2005.

Research
and Development, Patents and Licenses, etc.

Research
and development costs primarily consist of salaries and related costs of employees engaged
in ongoing research, design and development activities. Research and development costs
were $4.4 million in 2006, $4.8 million in 2005 and $5.6 million in 2004. The decreases in
2006 and in 2005 were due mainly to our cost reduction plan implemented during the second
half of 2005.

Selling,
General and Administrative Expenses

Selling
expenses consist of costs relating to promotion, advertising, trade shows and exhibitions,
compensation (including sales commissions), sales support, travel and travel-related
expenses and royalties to the Fund for the Encouragement of Marketing of the Government of
Israel, or the Marketing Fund, including all such expenses for our subsidiaries. We did
not receive any grants from the Marketing Fund in the years 2004, 2005 or 2006 and do not
expect to receive any such grants in the future. General and administrative expenses
consist of (a) compensation costs for administration, finance and general management
personnel, (b) office maintenance and administrative costs, (c) rent, (d) fees
paid for management services to DBSI and Koonras and (e) reserves for doubtful debts.

Selling,
general and administrative expenses decreased to $13.4 million in 2006 from $15.6 million
in 2005 and $14.0 million in 2004. The main reason for the decrease in 2006 was the cost
reduction plan implemented in the second half of 2005. The main reason for the increase in
2005 compared to 2004 was the implementation of the organizational changes and cost
reduction plan that resulted in termination and severance payments in 2005.

Financial
Income (Expenses), net

Financial
income (expenses), net, consists primarily of interest earned on our cash reserves, gains
(losses) from sale of bonds and funds, as well as interest on trade receivables and tax
rebates and currency translation adjustments between the U.S. dollar exchange rate imposed
on our assets and liabilities. Financial income (expenses), net, were $0.6 million in
2006, compared to $(0.1 million) in 2005 and $0.4 million in 2004, respectively. The
increase in financial income, net, in 2006 was due primarily to the devaluation of the
U.S. Dollar in relation to the Euro and the New Israeli Shekel. The decrease in financial
income, net, in 2005 compared to 2004 was due primarily to the devaluation of the Euro in
relation to the U.S. dollar.

35

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Net
Income (Loss)

We
incurred net losses of approximately $0.4 million and $4.6 million in 2004 and 2005
respectively, and recorded net income of $0.5 million in 2006. Although we had net income
in 2006 and net income of approximately $0.2 million in the first quarter of 2007, we
cannot be certain that we will maintain profitability on a quarterly or annual basis. If
the percentage of our overall revenues comprised by service revenue will increase, our
gross margins and profitability will likely be adversely affected. In addition, if our
revenues from the sale of products will decrease, such decrease may adversely affect our
future service revenues, as it may result in a smaller user base to purchase service
contracts from us. See Item 3  Risk Factors. For a geographical
breakdown of our revenues, please refer to Item 4  Information on the Company
 Geographical Breakdown of our Revenue.

# Effective Corporate Tax
Rate

We
and each of our subsidiaries are subject to corporate taxes in various countries in which
we and they operate. We are currently most significantly affected by corporate taxes in
Israel where we received a final tax assessment through the tax year ended December 31,
2000. Generally, as of January 1, 2007, Israeli companies are subject to corporate tax of
29% on taxable income and are subject to capital gains tax at a rate of 25% on capital
gains derived after January 1, 2003 (other than capital gains from the sale of listed
securities, which are subject to tax at the current rate of 31%). The corporate tax rate
was reduced in July 2005, from 31% for the 2006 tax year to 29% for the 2007 tax year, 27%
for the 2008 tax year, 26% for the 2009 tax year and 25% for the 2010 tax year and
thereafter. However, the effective tax rate payable by a company that derives income from
an approved enterprise (as discussed below) may be considerably less. We believe that our
effective tax rates in the U.S., Germany, France, the U.K., China, Japan, India and Korea
would have been approximately 35%, 25%, 33%, 19%, 33%, 31%, 34% and 27.5%, respectively,
for the year ended December 31, 2006, had we not incurred tax losses in such countries. We
believe that we had tax loss carryforwards in Israel in the aggregate amount of $8.4
million as of the end of 2006. In addition, as of December 31, 2006, we had approximately
$6.4 million in net operating loss carryforwards in North America, $1.4 million in
Germany, $2.5 million in France and $0.5 million in the U.K. We expect that as our profits
increase and our subsidiaries utilize their respective loss carryforwards, particularly in
countries with relatively high corporate tax rates, our consolidated effective tax rate
will increase.

We
have been granted Approved Enterprise status under the Israeli Law for the
Encouragement of Capital Investments, 1959 continuously since 1994. Consequently, we are
eligible for certain Israeli tax benefits. Income derived from our Approved Enterprise
plan is exempt from tax for a period of two years, commencing in the first year in which
we generate taxable income from such Approved Enterprise (subsequent to use of all Israeli
tax loss carryforwards), and is subject to a reduced tax rate of 25% for a further five
years, respectively. See Note 13 of the notes to our consolidated financial statements
included elsewhere in this annual report.

36

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# Liquidity and Capital
Resources

We
finance our operations primarily from funds provided by operations and, to a lesser
extent, from accumulated cash and cash generated by the sale of our investments. We
believe that our accumulated cash, in addition to cash generated from operations and
available funds, will be sufficient to meet our cash requirements for working capital and
capital expenditures for at least the next 12 months. Thereafter, if cash generated from
operations is insufficient to satisfy our liquidity requirements, we may sell additional
equity or debt securities or obtain credit facilities.

As
of December 31, 2006, we had $6.9 million in cash and marketable investments. During 2006,
net cash provided by operating activities was $1.3 million, and was comprised of our net
profit of $0.5 million, non-cash use of depreciation and amortization of $0.5 million,
increase in accrued severance pay of $0.5 million and increase in trade payables, accrued
expenses and other liabilities of $0.4 million, partially offset by increase in deposits
with insurance companies and severance pay fund of $0.4 million and decrease in debts to
related parties of $0.2 million. In addition, long-term investments in the amount of $2.2
million reached maturity and were reclassified as cash and cash equivalents. Furthermore,
we utilized a renewable loan in the amount of $0.5 million from a Swiss bank, which is
secured by all our assets held by the bank. Such assets vary from time to time. Until
recently the loan had a 6-month term and was renewable every 6 months provided that we had
other assets in the bank. So long as amounts under the loan are outstanding, we are not
allowed to use our assets in the bank in an amount that would exceed the amount of the
loan. In May 2007 we renewed the loan for an additional term of three months.

In
addition to the cash provided by investing activities described above, we invested $0.1
million in acquisition of affiliated companies, and $0.5 million in the purchase of
property and equipment, resulting in net cash provided by investing activities of $1.6
million.

These
transactions caused our aggregate amount of cash and cash equivalents to be $5.6 million
as of December 31, 2006 as compared to $2.7 million as of December 31, 2005, and our
short-term and long-term marketable investments to be $1.3 million as of December 31,
2006, as compared to $3.5 million as at December 31, 2005.

As
of December 31, 2006, our combined cash and cash equivalents and short-term and long-term
marketable investments totaled $6.9 million, compared to $6.2 million as of December 31,
2005. As of December 31, 2006, our working capital was $5.3 million and our total assets
were $17.9 million, compared to $4.3 million and $16.4 million, respectively, as of
December 31, 2005. The increase in working capital resulted from an increase in cash and
cash equivalents and short term investments, trade account receivables, and inventory,
offset by an increase in trade payables and accrued expenses and other liabilities. The
change in total assets resulted from an increase in cash and cash equivalents and
short-term investments, deposits with insurance and severance funds, offset by an increase
in accrued expenses and other liabilities and accrued severance pay.

37

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Our
trade receivables, net of allowance for doubtful accounts on December 31, 2006 totaled
$4.8 million, compared to $4.5 million on December 31, 2005. The increase was due to
higher sales in 2006. The collection cycle remained unchangedduring 2006 compared
to 2005. We believe that, generally, the quality of receivables remained unchanged and we
will continue our efforts to shorten the collection cycle.

Our
capital expenditures for 2006 amounted to approximately $0.5 million and were mostly for
the purchase of computers, computer equipment and other office equipment.

Concentration
of credit risk.

Financial
instruments that potentially subject us to concentration of credit risk consist
principally of cash and cash equivalents, short-term investments and accounts receivable.
Our cash and cash equivalents, short-term investments and long-term investments are
invested in deposits with major banks in the United States, Europe and Israel. We believe
that the financial institutions holding our cash funds are financially sound, and that
minimal credit risk exists with respect to our marketable securities, which consist of
debt securities of the Government of Israeland highly rated corporate bonds. Our
accounts receivable are generated from a large number of customers located in Europe,
Asia, the United States and Israel. We perform ongoing evaluations of our accounts
receivable and maintain an allowance for doubtful accounts that we believe is adequate to
cover all anticipated losses with respect to our accounts

Impact
of Inflation and Devaluation on Results of Operations, Liabilities and Assets

Although
part of our revenues are denominated and paid in U.S. dollars, the majority are not so
denominated and paid. Therefore we believe that inflation and fluctuations in the U.S.
dollar exchange rate may have a material effect on our revenue. The cost of our Israel
operations, as expressed in U.S. dollars, is influenced by the extent to which any
increase in the rate of inflation in Israel is not offset (or is offset on a lagging
basis) by a devaluation of the NIS in relation to the U.S. dollar.

The
exchange rate between NIS and the U.S. dollar has fluctuated during the past six months
(December 2006  May 2007) from a low of NIS 3.932 to the dollar to a high of NIS
4.26 to the dollar. The high and low exchange rates between the NIS and U.S. dollar during
the six most recent months, as published by the Bank of Israel, were as follows:

|MONTH         | LOW 1 U.S. dollar = | HIGH 1 U.S. dollar =
|------------- | ------------------- | --------------------
|
|
|
|
|December 2006 | 4.176               | 4.234               
|January 2007  | 4.187               | 4.260               
|February 2007 | 4.183               | 4.254               
|March 2007    | 4.155               | 4.222               
|April 2007    | 4.014               | 4.135               
|May 2007      | 3.932               | 4.065               

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The
average exchange rate, using the average of the exchange rates on the last day of each
month during the period, for each of the five most recent fiscal years, was as follows:

|Period                              | Exchange Rate
|----------------------------------- | -------------
|
|
|
|
|January 1, 2002 - December 31, 2002 | 4.738 NIS/$1 
|January 1, 2003 - December 31, 2003 | 4.548 NIS/$1 
|January 1, 2004 - December 31, 2004 | 4.478 NIS/$1 
|January 1, 2005 - December 31, 2005 | 4.503 NIS/$1 
|January 1, 2006 - December 31, 2006 | 4.466 NIS/$1 

In
2002 the rate of inflation was 6.5% and the rate of devaluation of the NIS against the
dollar was 7.27%. In 2003, there was on the one hand a devaluation of the U.S. dollar
against the NIS and on the other hand a deflation.In 2004 the rate of inflation
was approximately 1.2% and the U.S. dollar was devaluated against the NIS by 1.6%. In 2005
the rate of inflation was approximately 2.4% and the U.S. dollar was devaluated against
the NIS by 6.8%. In 2006 the rate of inflation was approximately (0.1)% and the U.S dollar
was devaluated against the ILS by 8.2%.

Since
our financial results are reported in dollars, fluctuations in the rates of exchange
between the dollar and non-dollar currencies may have a material effect on our results of
operations. We therefore use currency exchange forward contracts and currency exchange
options to hedge the impact of the variability in the exchange rates on future cash flows
from certain Euro-denominated transactions, as well as certain NIS-denominated expenses.
Our policy is to hedge 50% to 80% of our Euro denominated future cash flows to protect
against a reduction in reported operating income arising from decreases in the Euro 
U.S. dollar exchange rate and to hedge 60% to 80% of our NIS denominated expenses to
protect against an increase in reported expenses arising from increases in the U.S. dollar
 NIS exchange rate. However, we may decide not to hedge in accordance with this
policy where, in our judgment, the applicable exchange rate is sufficiently low. The
counter-parties to our forward contracts and currency exchange options are major financial
institutions with high credit ratings. We believe the risk of incurring losses on such
forward contracts and currency exchange options related to credit risks is remote and that
any losses would be immaterial. As of December 31, 2006 we had no currency exchange
options. As of May 31, 2007, we had currency exchange options to sell up to 1.47 million
Euro for a total amount of $1.91 million, and had written currency exchange options to
sell up to 1.47 million Euro for a total amount of $2.03 million that were scheduled to
expire prior to December 31, 2007. As of December 31, 2006, we had currency forward
transactions to sell $2.04 million for a total amount of NIS 9.17 million until March 29,
2007. As of May 31, 2007 we had no currency forward transactions. See Item 11 
Quantitative and Qualitative Disclosure about Market Risk for a description of
hedging and other similar transactions.

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# Research and
development, patents, licenses, etc.

We
conduct our research and development operations primarily in Israel and to a small extent
in Russia. Our research and development efforts have been financed through internal
resources and through plans sponsored by the Chief Scientist of the Government of Israel,
or the OCS. In the years ended December 31, 2004, 2005 and 2006 our gross research and
development expenditures were $5.5 million, $4.8 million and $4.4 million, respectively
(24%, 23%, and 21% of total revenues, respectively). Prior to 2001, we were granted
royalty-bearing grants from the OCS for research and development activities. Under the
provisions of Israeli law in effect until 1996, royalties of 2%-3% of the revenues derived
from the sale of software products developed under a research and development program
funded by the OCS and certain related services must be paid to the State of Israel.
Pursuant to an amendment effected in 1996 effective with respect to OCS plans funded in or
after 1994, royalties generally at the rate of 3% during the first three years, 4% over
the following three years and 5% in or after the seventh year of the revenues derived in
connection with products developed according to such plans are payable to the State of
Israel. The maximum aggregate royalties will not exceed 100% (for funding prior to 1994,
100% to 150%) of the U.S. dollar-linked value of the total grants received. Pursuant to an
amendment effected in 2000, effective with respect to OCS plans funded in or after 2000,
the royalty rates described above were updated to 3% during the first three years and 3.5%
in or after the fourth year, of the revenues derived in connection with products developed
under such plans. Pursuant to an amendment effected on January 1, 1999, effective with
respect to OCS plans approved in or after 1999, funds received from the OCS shall bear
annual interest at a rate equal to LIBOR for twelve months. As of December 31, 2006, our
contingent liability with respect to such grants was approximately $2.19 million,
contingent upon us generating revenues from sales of products developed with funds
provided by the OCS.

We
believe that the majority of products that we have sold since January 1, 2005 are not
based on technology developed with funds provided by the OCS and that, accordingly, such
sales should not be subject to the payment of royalties to the OCS. Therefore, the royalty
reports we submitted to the OCS for the period starting January 1, 2005 and thereafter
have reflected significantly reduced royalty obligations in comparison to our royalty
reports for the years prior to 2005. In addition, during the second half of 2005 we
initiated a process with the OCS in an attempt to obtain the agreement of the OCS with our
position and to the cessation of our obligation to pay future royalties. Following this
application and further correspondence between the OCS and us, the OCS appointed an
external professional examiner to examine our claim from a technological point of view.
This examiner submitted his report to the OCS in November 2005. In December 2005, the OCS
appointed a second professional examiner to submit a second opinion regarding our
technological claim. During January 2006 our management met with the OCS in an attempt to,
among other things, accelerate the OCSs treatment of our application. In September
2006 we received a letter from the OCS rejecting our application. Following further
inquiries made by us, we continued corresponding with the OCS and in January 2007 our
management met again with the OCS. As a result of this meeting the OCS agreed to continue
its examination of our application. However, to date, we have not received any final
decision from the OCS, despite our ongoing efforts to resolve this matter.

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Although
we believe we have strong arguments to support our position, we have accrued royalty
expenses in the amount of $1.6 million in our financial reports for the periods from
January 1st, 2005 to March 31st, 2007, but we have not paid to the OCS any royalties
associated with the products mentioned above. In light of the above-mentioned facts, we
continue to evaluate and consider our next steps with the OCS, including without
limitation, whether further royalty expense accruals will be necessary. See Item 3.
Risk Factors  We may be required to pay royalties to the OCS in respect of sales
since January 1, 2005 for a discussion of the risks to us arising from the
possibility that we may be obligated to pay to the OCS the amount we have accrued with
regard to this issue or even more than such amount.

The
State of Israel does not own proprietary rights in technology developed with OCS funding
and there is no restriction on the export of products manufactured using technology
developed with OCS funding. The technology is, however, subject to transfer restrictions,
as described below. These restrictions may impair our ability to sell our technology
assets or to outsource manufacturing and the restrictions continue to apply even after we
have paid the full amount of royalties payable for the grants. In addition, the
restrictions may impair our ability to consummate a merger or similar transaction in which
the surviving entity is not an Israeli company.

The
transfer to a non-Israeli entity of technology developed with OCS funding, including
pursuant to a merger or similar transaction, and the transfer of rights related to the
manufacture of more than ten percent of a product developed with OCS funding are subject
to approval by an OCS committee and to the following conditions:

| |  | Transfer
of Technology.If the committee approves the transfer of OCS-backed technology, such
a transfer would be subject to the payment to the OCS of a portion of the consideration
we receive for such technology. The amount payable would be a fraction of the
consideration equal to the relative amount invested by the OCS in the development of such
technology compared to our total investment in the technology, but in no event less than
the amount of the grant. However, in the event that in consideration for our transfer of
technology out of Israel we receive technology from a non-Israeli entity for use in
Israel, we would not be required to make payments to the OCS if the approval committee
finds that such transfer of non-Israeli technology would significantly increase the
future return to the OCS.
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Transfer
of Manufacturing Rights.The committee is authorized to approve transfers of
manufacturing rights only if the transfer is conditioned upon either (1) payment of
increased aggregate royalties, ranging from 120% to 300% of the amount of the grant plus
interest, depending on the percentage of foreign manufacture or (2) a transfer of
manufacturing rights into Israel of another product of similar or more advanced
technology.
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

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| |  | Merger
or Acquisition.If the committee approves a merger or similar transaction in which
the surviving entity is not an Israeli company, such a transaction would be subject to
the payment to the OCS of a portion of the consideration paid. The amount payable would
be a fraction of the consideration equal to the relative amount invested by the OCS in
the development of such technology compared to the total investment in the company, net
of financial assets that the company has at the time of the transaction, but in no event
less than the amount of the grant.
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

In
the event that the committee believes that the consideration to be paid in a transaction
requiring payment to the OCS pursuant to the provisions of the law described above does
not reflect the true value of the technology or the company being acquired, it may
determine an alternate value to be used as the basis for calculating the requisite
payments.

In
the years ended December 31, 2004, 2005 and 2006, we paid or accrued royalties to the OCS
in the amount of $0.8 million, $0.7 million and $0.7 million, respectively. We intend to
consider whether further accruals will be necessary in light of the facts described above
concerning our application to the OCS to recognize our claim that we are no longer
obligated to pay royalties on a majority of our sales subsequent to January 1, 2005.

In
addition to the OCS grants, we received grants from the Fund for the Encouragement of
Overseas Marketing of the Israeli Governments Ministry of Industry and Trade, with
respect to which we are obligated to pay royalties amounting to 3% to 4% of the
incremental exports, up to a maximum of 100% of the grants received. Our contingent
liability as of December 31, 2006 with respect to such grants was $0.6 million, contingent
upon our incremental exports.

Trend
Information

We
are subject to various trends and uncertainties in the CAD/CAM business, including
changing customer demands, new products developed by competitors, consolidation of
operations and the use of cost-cutting measures. Following is a summary of the material
trends and uncertainties influencing our operations:

Migration
to Far East.Many mold, tool, die and fixture makers as well as discrete part
manufacturers have migrated or intend to migrate their operations to markets in the Far
East, such as China, in order to take advantage of the relatively lower cost of labor
available in those markets for the manufacturing activities. We anticipate that this
migration will continue and have expanded our operations in Asia, including in China,
South Korea and India, in order to increase our share of those growing markets. Many of
those markets, including China, South Korea and India, are characterized by lower prices
and by higher usage of pirated copies of software products. While those markets are also
often much larger than a number of our traditional markets in Europe, to the extent that
we cannot offset the effects of lower prices and higher incidents of pirated software
usage, our revenues and profitability may be adversely affected.

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Maintenance
Revenues.It has been our experience that most of our customers who purchase
maintenance contracts elect to receive maintenance services from us on a continuing basis.
While customers in most markets do purchase maintenance services from us, our customers in
the Far East (other than in Japan, and South Korea to a certain extent) generally do not
purchase maintenance but instead purchase product upgrades on a case-by-case basis.
Accordingly, our maintenance revenues may be adversely impacted to the extent that our
customer base shifts to those markets in the Far East where customers often do not
purchase maintenance and there is no corresponding increase in customers in other markets.

Decrease
in prices. The strong competition in the software business generally, and in the
CAD/CAM business specifically, has caused prices of products in our industry to decrease.
Such decrease in software prices has resulted in a decrease in our revenues and thus in
our profits. As a result, we have been forced to employ cost-cutting measures. If the
foregoing trend continues, we may have to employ additional cost-reduction measures.

Risk
factors. In addition, our results of operations and financial condition may be
affected by various other factors discussed in Item 3  Key Information 
Risk Factors, including market acceptance of our products, changes in political,
military or economic conditions in Israel and in the Middle East, general slowing of local
or global economies and decreased economic activity in one or more of our target
industries.

|E. | OFF-BALANCE
SHEET ARRANGEMENTS
|-- | ------------------------------

Other
than as discussed below, we are not party to any off-balance sheet arrangements or subject
to any contingent liabilities.

1.                 With
respect to our contingent liability relating to payment of royalties to the
          OCS, see   Research and development, patents, licenses, etc.          above.

2.                 As
consideration for grants received from the Fund for the Encouragement of
          Overseas Marketing of the Israeli Governments Ministry of Industry and
          Trade, we are obligated to pay the Fund royalties amounting to 3% to 4% of the
          incremental exports, up to a maximum of 100% of the grants received. Our
          contingent liability as of December 31, 2006 was $0.6 million, contingent upon
          our incremental exports.

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|F. | TABULAR
DISCLOSURE OF CONTRACTUAL OBLIGATIONS
|-- | ---------------------------------------------

The
following table summarizes our contractual obligations and commercial commitments as of
December 31, 2006:

|Contractual Obligations as 
of December 31, 2006 | Payments due by Period
(US$ in thousands)
|------------------------------------------------ | -----------------------------------------
|
|
|
|
|Operating Leases                                 |                                          
|Purchase Obligations and Commitments             |                                          
|Other Long-Term Liabilities                      |                                          
|Total Contractual Cash Obligations               |                                          

(1)
          Represents a provision for future severance pay obligations.

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

This
annual report on Form 20-F contains 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 (the 1934 Act) (collectively, the
Safe Harbor Provisions). These are statements that are not historical
facts and include statements about our beliefs and expectations. These statements contain
potential risks and uncertainties, and actual results may differ significantly.
Forward-looking statements are typically identified by the words believe,
expect, intend, estimate and similar expressions. Such
statements appear in this annual report and include statements regarding the intent,
belief or current expectation of the Company or its directors or officers. Actual results
may differ materially from those projected, expressed or implied in the forward-looking
statements as a result of various factors, including, without limitation, the factors set
forth in Item 3 (Key Information) under the caption Risk Factors
(Cautionary Statements). Any forward-looking statements contained in this
annual report speak only as of the date hereof, and we caution potential investors not to
place undue reliance on such statements. We undertake no obligation to update or revise
any forward-looking statements. All subsequent written or oral forward-looking statements
attributable to us or to persons acting on our behalf are expressly qualified in their
entirety by the Cautionary Statements.

|Item 6. | Directors,
Senior Management and Employees
|------- | ------------------------------------------

# Directors and Senior
Management

As
of the date of this annual report, our directors, senior management and key employees were
as follows:

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|Name             | Age | Position                             
|---------------- | --- | -------------------------------------
|
|
|
|
|Rimon Ben-Shaoul | 62  | Chairman of the Board                
|Yossi Ben Shalom | 52  | Director                             
|Barak Dotan      | 39  | Director                             
|Kenny Lalo       | 49  | Director                             
|David Golan      | 66  | Director                             
|Ofra Brown       | 53  | External Director                    
|Rami Entin       | 56  | External Director                    
|Dan Haran        | 49  | President and Chief Executive Officer
|Ilan Erez        | 39  | Chief Financial Officer              

Rimon Ben-Shaoulhas served since February 2001 as Co-Chairman, President and Chief Executive Officer
of Koonras Technologies Ltd. and as a Chairman or member of the boards of various
companies of the Polar Investments Group. From June 1997 to February 2001 he served as
President and Chief Executive Officer of Clal Industries and Investments Ltd. and served
as a member of the board of Clal (Israel) Ltd. and on the board of several of its
subsidiaries. From 1985 to June 1997, he served as President and Chief Executive Officer
of Clal Insurance Company Ltd., as a member of its board and as Chairman or a member of
the board of several of its subsidiaries. Mr. Ben-Shaoul holds a bachelors degree in
economics and a masters degree in business administration from Tel Aviv University.

Yossi Ben Shalomis a co-founder of DBSI Investments Ltd. Prior to establishing DBSI Investments, Mr.
Ben Shalom served as Executive Vice President and Chief Financial Officer of Koor
Industries Ltd. (NYSE:KOR), from 1998 through 2000. Prior to that, he served as Chief
Financial Officer of Tadiran Ltd. Mr. Ben Shalom has also been an active director on
numerous boards, such as NICE Systems (NASDAQ:NICE), Machteshim Agan, Bank Klali and
others. Mr. Ben Shalom holds a bachelors degree in economics and a masters
degree in business administration from Tel Aviv University.

Barak Dotan is a co-founder of
DBSI Investments Ltd. Prior to establishing DBSI Investments, Mr. Dotan worked as Product
Manager for Jacada (NASDAQ:JCDA), formerly CST and later managed private investments in
high-tech and other areas. Mr. Dotan graduated summa cum laude from the Hebrew University
of Jerusalem with a bachelors degree in computer science and business
administration.

Kenny Lalo has served since
2001 as Vice President of Koonras Technologies Ltd. and as a member of the board of
several of its affiliates. Mr. Lalo has acted in the capacity of of-counsel to
the law firm of Pearl, Cohen, Latzer, Zedek since 2001. From 1993 to 2001, he served as
general counsel and later as Vice President of Clal Industries and Investments Ltd. and as
a member of the board of several of its affiliates. From 1986 to 1992, Mr. Lalo was an
attorney in Maryland, USA. Mr. Lalo holds an LL.B. from Tel Aviv University, an M.C.L.
from Georgetown University and a masters degree in business administration from
Northwestern University, Chicago.

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David Golan has been a
director on our board since 1992 and is a former Chairman of the board. Mr. Golan is
currently an independent businessman and a director. Previously he was an executive
director in the Binat Group and served on the board of directors of several public and
private companies. From May 1998 to September 2000 Mr. Golan was Managing Director in
charge of Zeevi Holdings investments, not including ZCT. From March 1997 to May
1998, he was the Chief Executive Officer of Clal Trading Ltd., a subsidiary of the IDB
group. From 1992 to March 1997, he was Executive Vice President of Clal Trading. Mr. Golan
was formerly president of Gal Weisfield Industries Ltd. Mr. Golan holds a bachelors
degree in economics and statistics from Hebrew University in Jerusalem and a masters
degree in business administration from New York University.

Ofra Brown currently serves as
the Chief Financial Officer of VIZRT Ltd., a public company traded on the Frankfurt Stock
Exchange and on the Oslo Stock Exchange in Norway. From 1999 to 2001, Ms. Brown served as
the Chief Financial Officer of BVR Technologies Ltd., a company previously publicly traded
on the NASDAQ. From 1978 through 1998 Ms. Brown served as the Credit Manager for
Electronic and Hi-Tech Industries  Industrial Development Bank of Israel Ltd. Ms.
Brown holds a bachelors degree in economics from Tel Aviv University and a
masters degree in business administration from City University of Seattle.

Rami Entincurrently serves as
a director of ECtel Ltd., a Nasdaq-traded company that develops and markets fraud
prevention and revenue assurance solutions for circuit-switched and packet-switched
wireline and wireless networks, and is an external director of Solomon Holdings Ltd., an
Israeli publicly traded construction company. Mr. Entin is also a director of Hilan-Tech
Ltd., of Incentives Solutions Ltd. and of Gilon Business Insight Ltd., and serves as an
external director of B.S.P. Biological Signals Processing Ltd. From 2002 until 2003, Mr.
Entin was the chairman of the Hashavim Group, a data center for direct taxation and
employment laws and a processor of wages and personnel data. From 1999 until 2001, Mr.
Entin was Co-Chief Executive Officer and a director of Hilan-Tech Ltd., where he was in
charge of financial, personnel, sales and marketing and Lotus Notes operations. From 1985
until 1999 he was financial manager and a director of Hilan Ltd., where he was in charge
of financial and personnel operations. From 1981 until 1985, Mr. Entin worked for
Kesselman & Kesselman, an accounting firm, where he served various publicly traded
companies engaged in the services and industry fields. Mr. Entin holds a B.A. degree in
accounting and economics and an M.B.A. degree from the Tel Aviv University, and is a
certified accountant in Israel. He is also a graduate of the Advanced Management Program
at Harvard University.

Dan Haran has been our
President and Chief Executive Officer since July 2005. Mr. Haran joined Cimatron as Vice
President of Marketing and Chief Operating Officer in November 2003 after having been
employed by Comverse (Nasdaq:CMVT) where he held several senior management positions, most
recently as Chief Operating Officer of the Intelligent Network Division. Prior to
Comverse, Mr. Haran managed Medcon Systems, an Israeli-based start-up company. Mr. Haran
holds a bachelor of science degree in computer engineering from the Technion, a master of
science degree from the Weitzman Institute, and a master of business administration degree
from Tel Aviv University.

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Ilan Erez, joined us as VP
Finance in May 2005 and became CFO in July 2005. From 1998 to 2005 Mr. Erez served as the
Chief Financial Officer of Silicom Ltd., a NASDAQ listed company engaged in the design,
manufacturing and selling of server-networking cards. He also served as VP Operations of
Silicom from May 2001 until his departure. From 1996 to 1998 Mr. Erez served as a
Controller and assistant to the Chief Executive Officer at Bio-Dar Ltd. From 1994 until
1996 Mr. Erez served as an Auditor at Kesselman & Kesselman, a member of
PriceWaterhouseCoopers. Mr. Erez is a Certified Public Accountant in Israel and holds a
B.A in Accounting and Economics from the Hebrew University in Jerusalem and an LL.M. in
Business Law from Bar-Ilan University.

# Arrangements for the
Election of Directors

Koonras
Ltd. and DBSI Investments Ltd., our two largest shareholders (each holding approximately
32% of our share capital), control the outcome of most matters submitted to a vote of our
shareholders, including the election of members of our board of directors. Koonras and
DBSI have entered into an agreement by which, among other matters, they will each appoint
one half of our directors, not including our external directors, and vote together at our
shareholders meetings.

# Compensation

During
the year ended December 31, 2006, we paid, in the aggregate, approximately $0.7 million in
direct remuneration to our directors and officers for services provided by them to the
Company in such capacities. The above does not include amounts expended by us for
automobiles made available to our officers, expenses (including business travel,
professional and business association dues and expenses) reimbursed to officers and other
fringe benefits commonly reimbursed or paid by companies in Israel. We pay our external
directors, as well as Mr. David Golan, an annual fee of $7,000 plus $335 for each meeting
of the board of directors attended and each meeting of a committee of the board of
directors attended and reimbursement for expenses incurred in connection with the
discharge of responsibilities as a board member, including attending board of directors
meeting.

# Board of Directors

Our
Articles of Association provide for a Board of not less than two members. Each director,
with the exception of external directors who are elected to serve set periods of time as
described below, is elected to serve until the next annual general meeting of shareholders
and until his or her successor has been duly elected. Officers serve at the discretion of
the Board.

47

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Substitute
Directors

Our
Articles of Association provide that any director may, by written notice to us, appoint
another person to serve as a substitute director and may cancel such appointment. A person
may not serve as a substitute director for more than one director and may not serve as
both director and as a substitute director.

The
term of appointment of a substitute director may be for one meeting of the board of
directors or for a specified period or until notice is given of the cancellation of the
appointment. Any substitute director will have all of the rights and obligations of the
director appointing him or her, except the power to appoint a substitute (unless the
instrument appointing him or her provides otherwise), and the right to remuneration. The
substitute director may not act at any meeting at which the director appointing him or her
is present. Unless the appointing director limits the time period or scope of any
appointment, the appointment is effective for all purposes, but will expire upon the
expiration of the appointing directors term. To our knowledge, no director currently
intends to appoint any other person as a substitute director, except if the director is
unable to attend a meeting of the board of directors.

External
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 external directors.

No
person may be appointed as an external 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
external director, any affiliation with the company or any entity controlling, controlled
by or under common control with the company. The term affiliation includes:

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

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

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

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

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

External
directors are to be elected by a majority vote at a shareholders meeting, provided
that either:

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

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

48

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The
initial term of an external director is three years, and he or she may be reelected to one
additional term of three years by a majority vote at a shareholders meeting. An
external director may be removed only by the same percentage of shareholders as is
required for his or her election, or by a court, and then only if he or she ceases to meet
the statutory requirements for his or her appointment or if he or she violates the duty of
loyalty to the company.

Each
committee of a companys board of directors that has the right to exercise powers
delegated by the board must include at least one external director and our audit committee
is required to include all of the external directors. Our external directors are Ofra
Brown and Rami Entin, who will complete their current terms in May 2008, in accordance
with Israeli law.

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

Under
the Companies Law, at least one of the external directors serving on a companys
board of directors is requiredto have financial expertise and theother external director or directors are required to have professional
expertise. A director is deemed to have professional expertise if he or
she either (i) has an academic degree in economics, business management, accounting, law
or public service, (ii) has an academic or other degree or completed another higher
education, all in the field of business of the company or relevant for his/her position,
or (iii) has at least 5 years experience as either a senior managing officer in the
companys line of business with a significant volume of business, a public office, or
a senior position in the companys main line of business. A director with
financial expertise is a director that due to his education, experience and
skills has a high expertise and understanding in financial and accounting matters and
financial statements, in such a manner which allows him to deeply understand the financial
statements of the company and initiate a discussion about the presentation of financial
data.

Audit
Committee

The
Companies Law requires public companies to appoint an audit committee. The
responsibilities of the audit committee include identifying irregularities in the
management of the companys business, approving related party transactions as
required by law, and reviewing the quarterly and annual balance reports and recommending
their approval before our board or directors. An audit committee must consist of at least
three directors, including all the external directors of the company. The chairman of the
board of directors, any director employed by or otherwise providing services to the
company, and a controlling shareholder or any relative of a controlling shareholder, may
not be a member of the audit committee.

Under
the Nasdaq rules, we are required to have at least three independent directors on the
audit committee. In addition, Nasdaq requires that the members of the audit committee (a)
not have any relationship to the company that may interfere with the exercise of their
independence, and (b) must be financially literate.

49

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Under
the Nasdaq rules and the Sarbanes-Oxley Act, the audit committee (i) has the sole
authority and responsibility to select, evaluate, and, where appropriate, replace the
companys independent auditors, (ii) is directly responsible for the appointment,
compensation and oversight of the work of the independent auditors for the purpose of
preparing its audit report or related work, and (iii) is responsible for establishing
procedures for (A) the receipt, retention and treatment of complaints received by the
company regarding accounting, internal accounting controls or auditing matters, and (B)
the confidential, anonymous submission by employees of the company of concerns regarding
questionable accounting or auditing matters. The audit committee is required to consult
with management but may not delegate these responsibilities. In addition, under the
Sarbanes-Oxley Act, the audit committee is responsible, among other things, for the
following:

| |  | Have
the sole authority to review in advance, and grant any appropriate pre-approvals of, (i)
all audit and non-audit services to be provided by the independent auditors and (ii) all
fees and other terms of engagement;
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Review
and discuss with management and the independent auditors the companys quarterly
financial statements (including the independent auditors review of the quarterly
financial statements) prior to any required submission to shareholders, the SEC, any
stock exchange or the public;
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Review
and discuss with management and the independent auditors the companys annual
audited financial statements prior to any required submission to shareholders, the SEC,
any stock exchange or the public;
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Recommend
to the Board, if appropriate, that the companys annual audited financial statements
be included in the companys annual report;
| | - | ------------------------------------------------------------------------------------------------------------------------------------------

| |  | Review
and discuss with management all disclosures made by the company concerning any material
changes in the financial condition or operations of the company;
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Review
disclosures made to the audit committee by the companys chief executive officer and
chief financial officer during their certification process for the companys annual
report about any significant deficiencies in the design or operation of internal controls
or material weaknesses therein and any fraud involving management or other employees who
have a significant role in the companys internal controls; and
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Review
and approve all related-party transactions.
| | - | --------------------------------------------------

As
of the date of this annual report, Mr. David Golan, Ms. Ofra Brown and Mr. Rami Entin are
serving as members of our audit committee. Mr. Kenny Lalo serves as a non-voting member of
our audit committee.

Internal
Auditor

Under
the Companies Law, the board of directors must appoint an internal auditor, nominated by
the audit committee. The role of the internal auditor is to examine, among other matters,
whether the companys actions comply with the law and orderly business procedure.
Under the Companies Law, the internal auditor may be an employee of the company but not an
office holder, or an affiliate, or a relative of an office holder or affiliate, and he may
not be the companys independent accountant or its representative. Ernst & Young
 Kost, Forer, Gabbay & Kasierer Business Risk Services serves as our internal
auditor.

50

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Nasdaq
Listing Requirements

Nasdaq
rules enable foreign private issuers, such as ourselves, to comply with the prevalent
practice in our jurisdiction of incorporation in place of certain Nasdaq listing
requirements.  To the extent that we choose to do so, we are required to disclose in
our annual reports filed with the Commission each Nasdaq listing requirement that we do
not follow and describe the home country practice we follow in lieu of such requirement.

We
have chosen not to comply with Nasdaq Marketplace Rules 4350(c)(4)(B) (requiring companies
to adopt a formal written charter or board resolution addressing the companys
nominations process) and 4350(c)(2) (Regularly scheduled meetings of the companys
independent directors). Under Israeli law, the nominations process is conducted by the
full board of directors. Similarly, under Israeli law all matters that are subject to the
approval of a companys board of directors are discussed by the full board of
directors. In addition, we do not intend to comply (if and when the events underlying such
rule become relevant) with the Nasdaq listing requirement of shareholder approval for the
establishment of and amendments to stock option or purchase plans (Rule 4350(i)(A)), which
matter is not subject to shareholder approval under Israeli law and practice.

# Employees

The
following table sets forth for the last three financial years, the number of our employees
broken down into categories.

|Period ending December 31,                        | 2006 | 2005 | 2004
|------------------------------------------------- | ---- | ---- | ----
|
|
|
|
|Research and Development                          |      |      |     
|Marketing, Sales and Customer Support             |      |      |     
|Administration Management and Information Systems |      |      |     
|Total                                             |      |      |     

As
of May 31, 2007, we employed 192 full-time personnel, of whom 52 (most of whom hold
advanced technical degrees) were employed in research and development, 124 were employed
in marketing, sales and customer support and 16 were employed in various administrative,
information systems and management positions. Of these employees, 92 were employed in
Israel operations, 21 were employed by our North American subsidiary, 33 were employed by
our German subsidiary, 41 were employed by our Chinese subsidiaries, 2 were employed by
our Indian subsidiary and 6 were employed by our Korean subsidiary. In addition, we
employed 9 subcontractors or free-lance personnel on average during the year 2006
and as of May 31, 2007 we employed 7 subcontractors personnel.

51

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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 Associations) are applicable to our employees in
Israel by order of the Israeli Ministry of Labor. These provisions concern principally the
length of the workday; minimum daily wages for professional workers, 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. In addition to salary and other
benefits, certain of our marketing personnel are paid commissions based on our performance
in certain territories worldwide.

Israeli
law generally requires severance pay, which may be funded by Managers Insurance
described below, upon the retirement or death of an employee or termination of employment
without cause (as defined in the law). The payments thereto amount to approximately 8.33%
of wages. Furthermore, 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 by the employee for national
health insurance. The total payments to the National Insurance Institute are equal to
approximately 14.6% of the employees wages (up to a specified amount), of which the
employee contributes approximately 66% and the employer contributes approximately 34%.

A
general practice that we follow, which, as of May 2006, is also legally required, is the
contribution of funds on behalf of our employees to a fund known as Managers
Insurance. This fund provides a combination of savings plan, insurance and severance
pay benefits to the employee, giving the employee payments upon retirement or death and
securing the severance pay, if legally entitled, upon termination of employment. In past
years we could decide whether each employee was entitled to participate in the plan.
Following a new regulation is Israel, starting May 2006 all our Israeli employees
participate in such plan. Each such employee is required to contribute an amount equal to
5% of their salary per month for the managers insurance and we contribute an additional
amount between 13.3% and 15.8% of their salary per month.

# Share Ownership

1998
Share Option Plan

In
April 1998, the board of directors adopted an additional share option plan (the 1998
Share Option Plan) pursuant to which 620,000 Ordinary Shares were reserved for
issuance upon the exercise of options to be granted to our directors, officers, employees
and consultants. The 1998 Share Option Plan is administered by our Board, which designates
the optionees and dates of grant. The exercise price of an option granted under the 1998
Share Option Plan may be no less than 85% of the fair market value of an Ordinary Share,
as determined by the board on the date that the option is granted. Options granted vest
over a period determined by the board, terminate three years after they become
exercisable, and are non-assignable except by the laws of descent. The board has the
authority to amend the terms of option grants, provided that any such amendment is in the
best interest of the grantee. As of May 31, 2007, none of these options were
outstanding.The grantee will be responsible for all personal tax
consequences of the grant and the exercise thereof.

52

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In
March 2000, the board adopted new guidelines for the options to purchase Ordinary Shares
reserved for issuance under the 1998 Share Option Plan upon the exercise of options to be
granted to our directors, officers, employees and consultants. As of May 31, 2007, none of
such options were outstanding.

In
August 2003, the board of directors approved the grant of options to purchase 150,000 of
the Companys shares at a price of $2.50 per share to two officers of the Company.
These options are exercisable commencing one year after the date of grant at a rate of 25%
per year, subject to the continued employment of the officers. As of May 31, 2007, 50,000
such options were outstanding at a price of $2.50 per share. For additional information
relating to the stock options granted by us under the 1998 Share Option Plan, see Note
12(B) to our financial statements included in Item 18.

2004
Share Option Plan

In
October 2004, our board of directors and shareholders adopted the 2004 Share Option and
Restricted Shares Incentive Plan (2004 Share Option Plan) pursuant to which
240,000 Ordinary Shares were reserved for issuance upon the exercise of options to be
granted to our directors, officers, employees and consultants. The 2004 Share Option Plan
is administered by our Board, which designates the optionees and dates of grant. The
exercise price of an option granted under the 2004 Share Option Plan may be no less than
95% of the fair market value of an Ordinary Share, as determined by the board on the date
that the option is granted. Options granted vest over a period determined by the board,
terminate ten years from the date of grant, unless otherwise determined by the Board, and
are non-assignable except by the laws of descent. The board has the authority to amend the
terms of the option plan, provided that any such amendment does not adversely effect any
options granted thereunder. In February 2005, 238,500 of such options were granted to
employees of the Company at an exercise price of $2.20 per share and with a term of ten
years, and in August 2005, the board of directors approved the grant of 32,000 of such
options at an exercise price of $2.00 per share to the Companys Chief Executive
Officer. In December 2005 our board of directors increased the 2004 Share Option Plan
reserve by an additional 250,000 shares. In May 2006 an additional 189,000 options were
granted to Company employees under the 2004 Share Option Plan at an exercise price of
$1.75-$2.00 and with a term of five years. As of May 31, 2007, 360,239 of such options
were outstanding.These options are exercisable pursuant to a three
(3) year vesting schedule as follows: (i) thirty three percent (33%) of the shares covered
by the options become exercisable on the first anniversary of the grant date; and (ii)
sixteen and one-half percent (16.5%) of the shares covered by the options become
exercisable at the end of each subsequent six months period over the course of the
following two (2) years, subject to the continued employment of each employee. The grantee
will be responsible for all personal tax consequences of the grant and the exercise
thereof. We intend to grant additional options under the 2004 Share Option Plan to various
of our directors, executive officers and employees.

At
May 31, 2007 options to purchase 601,250 and 91,333 of our ordinary shares were available
for grants to various of our directors, officers, employees and consultants under the 1998
and 2004 Share Option Plans, respectively.

53

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Repurchase
of Our Shares

We
purchased 159,600 of our shares in the open market between September 2002 and February
2003 at an average price of $0.95 per share. During 2003, we repurchased 26,000 shares at
an average price of $1.04 per share. Under Israeli law, while these shares are considered
to be part of our outstanding share capital that can be reissued by us in the future, they
are dormant shares and as such they cannot be voted and do not provide any
other rights, other than upon liquidation.

# Beneficial Ownership by
Officers and Directors

Messrs.
          Ben Shalom, Ben Shaoul, Dotan and Lalo may be deemed to have beneficial
          ownership of an aggregate of 5,126,310 of our shares, representing 63.91% of
our           issued and outstanding capital share, by virtue of their positions with
Polar           and DBSI and the voting agreement between Koonras and DBSI described
elsewhere           in this report.

|Item 7. | Major
Shareholders and Related Party Transactions
|------- | -------------------------------------------------

# Major Shareholders

The following
table sets forth information, as of May 31, 2007, concerning the beneficial ownership (as
defined in Rule 13d-3 under the Securities Exchange Act of 1934) of ordinary shares by (i)
any person who is known to own at least 5% of the ordinary shares of our company and (ii)
all directors and executive officers as a group. The voting rights of our major
shareholders do not differ from the voting rights of holders of all our ordinary shares.

|Name and Address                                              | Number of
Ordinary Shares | Percent of
Ordinary Shares
|------------------------------------------------------------- | ------------------------- | --------------------------
|
|
|
|
|Koonras Ltd.                                                  |                           |                           
|21 Ha'arba'ah St.
Tel-Aviv, Israel                            |                           |                           
|                                                              |                           |                           
|DBSI Investments Ltd.                                         |                           |                           
|85 Medinat Hayehudim St.                                      |                           |                           
|Herzliya, Israel                                              |                           |                           
|                                                              |                           |                           
|All directors and executive officers 
as a group (11 persons) |                           |                           

54

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(1)    
          Includes an aggregate of 5,126,310 shares beneficially held by Koonras and DBSI,
          by virtue of the positions held by certain of our directors on the board of
          directors of Koonras and DBSI, as to which such individuals disclaim beneficial
          ownership.

# Record Holders

As
of May 31, 2007, there were 28 record holders of our ordinary shares, of which 16
represented United States record holders owning an aggregate of approximately 36% of our
outstanding ordinary shares.

55

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# Related Party
Transactions

Services Agreement and
Lease Agreement

Until
February 2002, our former principal shareholder ZCT, provided us with certain corporate
and administrative services, including, but not limited to, executive management,
facilities and other such services as were agreed upon from time to time between us and
ZCT. The primary executive management services that we received under the agreement
represented the services of the chief executive officer and the chief financial officer of
ZCT, who did not receive separate fees for such services.Pursuant to such
agreement, we shared the expenses relating to the specific services we received from ZCT
with the other subsidiaries of ZCT that also received such services from ZCT.

As
of February 21, 2002, ZCT assigned all rights and obligations under the foregoing services
agreement to Koonras and DBSI. An assignment of this agreement to Koonras and DBSI was
ratified by our shareholders on July 11, 2002. From February 21, 2002 through December 31,
2003 we paid Koonras and DBSI an aggregate of NIS 2,919,500 for these services. Koonras
and DBSI will continue to provide these services to the Company for an annual fee of NIS
1,560,000 (linked to the Israeli Consumer Price Index as of July 2002).

Registration Rights

In
October 2004, we granted to Koonras and DBSI the registration rights described below. This
action was approved by our board, audit committee and the requisite majority of
disinterested shareholders in accordance with the related party transaction requirements
of Israeli law. Pursuant to the registration rights agreement entered into with them,
Koonras and DBSI have the right, subject to various conditions and limitations, to require
us to file a registration statement for the resale of their shares or to include their
shares in certain registration statements that we file.

Demand
Registration Rights

Koonras
and DBSI, together, and pro-rata between themselves, are entitled to up to two demand
registrations on Form F-1 (or an equivalent form) promulgated under the U.S. Securities
Act of 1933, as amended, at our expense, provided that the anticipated aggregate offering
price for the shares  to be registered, net of any underwriting discounts and
commissions, shall exceed US$1,000,000.

Notwithstanding
the foregoing, we are not required to effect a demand registration during the period
starting with the date of filing of, and ending on the date one hundred eighty (180) days
following the effective date of, a registration statement pertaining to our securities.

Koonras
and DBSI, together, and pro-rata between themselves, also have the right to require us to
effect up to four F-3 registrations, including for an offering to be made on a delayed or
continuous basis pursuant to Rule 415 of the Securities Act registering for resale
from time to time by such holders of all of their shares (the Shelf Registration
Statement), but no more than two such registrations in any 12 month period, in each
case, at our expense, provided, however, that we are not required to bear the cost of more
than one counsel for such holders.

56

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We
are required to use our best efforts to (a) cause the Shelf Registration Statement to be
declared effective under the Securities Act within three months after the
demand is made and (b) keep such Shelf Registration Statement continuously
effective under the Securities Act until the expiration of five (5) years from the date
that a Shelf Registration Statement is declared effective by the United States Securities
and Exchange Commission.

Piggyback
Registration

If
(but without any obligation to do so) we propose to register for our own account any of
our capital stock or other securities under the Securities Act in connection with a public
offering of such securities solely for cash (subject to certain exceptions, such as the
registration of employees options), then Koonras and DBSI shall be entitled to include
their shares in such registration.

The
underwriter of any such offering by us shall have the right to reduce the number of shares
proposed to be registered in light of market conditions, and in such event (a) the capital
stock that we propose to register shall have first priority for inclusion in the relevant
registration statement, and following our priority, (b) Koonras and DBSI shall have
priority (pro rata among them) to have their shares included in such registration, before
any other shares are included.

|Item 8. | Financial
Information
|------- | ---------------------

# Consolidated Statements
and Other Financial Information

Our
consolidated financial statements and other financial information are included in this
annual repot in Item 18  Financial Statements.

Legal Proceedings

In
April 2004, Omega  Adem Technologies Ltd., an Israeli privately held company engaged
in the development of software, filed a lawsuit against us, claiming that we caused four
employees of the plaintiff located in Russia to terminate their employment with the
plaintiff and join us. During a period of two years (until March 2003), the plaintiff
provided certain services to us. The four employees were among several employees who
provided such services. The plaintiff claimed, among other things, that we undertook not
to employ Omegas employees after the termination of the project Omega performed for
us. The plaintiff requested the District Court in Tel Aviv, Israel to grant an injunction
and a permanent order that would prevent us from hiring the four employees. In June, 2004,
the court rejected the plaintiffs request for an injunction. In September 2004,
Omega initiated arbitration proceedings against us pursuant to the services agreement
between the parties and submitted to an arbitrator agreed upon between the parties a
statement of claim for an amount of $20,000,000 for damages caused to Omega due to the
employment of the four employees in question. In November 2004, we submitted a statement
of defense denying all of Omegas claims and asserting, among other things, that we
engaged the employees upon expiration of a one-year period following termination of the
agreement between us and Omega and that we therefore were allowed to do so. On October 11,
2005 Omega submitted affidavits and on January 25, 2006 we submitted our affidavits. A few
evidentiary hearings were held by the arbitrator and on November 22, 2006, Omega filed its
summaries. The Company filed its summaries on March 27, 2007. The arbitration process is
now in its final stage. We believe that there is no merit to the claim and have
continuously vigorously opposed it, but we have nevertheless accrued in the fourth quarter
of 2005 a sum of $250,000 for this claim. We cannot give any assurance that we will be
victorious or that the arbitration award will not exceed the amount we accrued.

57

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On May 9, 2007, Collins & Aikman
Corporation, on behalf of themselves and certain related parties filed a complaint with
the United States Bankruptcy court of Michigan, Detroit, against our wholly owned
subsidiary, Cimatron Technologies, Inc. On May 17, 2005 the plaintiffs filed a voluntary
petition for relief under Chapter 11 of the Bankruptcy Code. The plaintiffs are demanding
repayment of an amount of $318,515 plus interest and expenses on the basis of, among
others, that such payment was made within ninety days preceding the petition date. The
payment to the subsidiary was mainly made in consideration for software delivered to the
plaintiff, and to a negligible extent, for services and maintenance provided to the
plaintiff. The subsidiary has engaged local counsel and intends to vigorously oppose such
claim.

Dividend
Distribution Policy

Certain
of our enterprises are Approved Enterprises. In the event of a distribution to
shareholders of cash dividends out of earnings subject to the exemption from the payment
of corporate tax provided to an Approved Enterprise, the Company will be subject to tax at
a rate of 25%. We have not provided deferred taxes on future distributions of
tax-exempt earnings, as management and the Board of Directors have determined not to make
any distribution that may result in a tax liability for the Company. Accordingly, such
earnings have been considered to be permanently reinvested. The tax-exempt earnings may be
distributed to shareholders without subjecting the Company to taxes only upon a complete
liquidation of the Company.

Significant
Changes

Since
the date of our consolidated financial statements there has not been a significant change
in our Company other then as set forth in the Financial Statements.

See
Item 5. Operating and Financial Review and Prospects  Overview for
additional details regarding the transaction with Microsystem, our Italian provider and
our anticipated increase in holdings thereof.

|Item 9. | The
Offer and Listing
|------- | ---------------------

# Offer and listing details

Our
ordinary shares were quoted on the NASDAQ Global Market System from March 1996 until April
17, 2001, from which time our ordinary shares have been traded on the NASDAQ Capital
Market. Through April 16, 2000, we were quoted under the symbol CIMTF and since April 17,
2000 we have been quoted under the symbol CIMT. The Ordinary Shares are not listed on any
other stock exchange and have not been publicly traded outside the United States. The
table below sets forth the high and low bid prices of the Ordinary Shares, as reported by
NASDAQ during the indicated fiscal quarters:

58

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|Period                                                       | High (U.S. $) | Low (U.S. $)
|------------------------------------------------------------ | ------------- | ------------
|
|
|
|
|Six most recent months:                                      |               |             
|May 2007                                                     |               |             
|April 2007                                                   |               |             
|March 2007                                                   |               |             
|February 2007                                                |               |             
|January 2007                                                 |               |             
|December 2006                                                |               |             
|                                                             |               |             
|Two most recent full financial years and subsequent periods: |               |             
|First Quarter 2007                                           |               |             
|Forth Quarter 2006                                           |               |             
|Third Quarter 2006                                           |               |             
|Second Quarter 2006                                          |               |             
|First Quarter 2006                                           |               |             
|Fourth Quarter 2005                                          |               |             
|Third Quarter 2005                                           |               |             
|Second Quarter 2005                                          |               |             
|First Quarter 2005                                           |               |             
|                                                             |               |             
|Five most recent years:                                      |               |             
|2006                                                         |               |             
|2005                                                         |               |             
|2004                                                         |               |             
|2003                                                         |               |             
|2002                                                         |               |             

# Markets

Our
shares are traded only on the NASDAQ Capital Market, where they are listed and traded
under the symbol CIMT.

|Item 10. | Additional
Information
|-------- | ----------------------

# Memorandum and Articles
of Association

# Articles of Association;
Israeli Companies Law

In
December 2006, our shareholders adopted amended and restated articles of association which
replaced in their entirety our previous articles of association, which were approved prior
to the adoption of the Companies Law and were not always consistent with the provisions of
the Companies Law. Our objective as stated in our Articles and in our Memorandum of
Association is to engage in any lawful activity.

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We
currently have only one class of securities outstanding, our Ordinary Shares, par value
NIS 0.10 per share. No preferred shares are currently authorized.

Holders
of Ordinary Shares have one vote per share, and are entitled to participate equally in the
payment of dividends and share distributions and, in the event of our liquidation, in the
distribution of assets after satisfaction of liabilities to creditors. Our Articles may be
amended by a resolution carried at a General Meeting by a majority of the shares present
and voting thereon (excluding abstained votes). The shareholders rights may not be
modified in any other way unless otherwise expressly provided in the terms of issuance of
the shares.

Our
Articles require that we hold our annual general meeting of shareholders each year no
later than 15 months from the last annual meeting, at a time and place determined by the
board of directors, upon at least 21 days prior notice to our shareholders. No business
may be commenced in any annual meeting until a quorum of two or more shareholders holding
at least 33% of the voting rights are present in person or by proxy. Shareholders may vote
in person or by proxy, and will be required to prove title to their shares as required by
the Companies Law pursuant to procedures established by the board of directors.
Resolutions regarding the following matters must be passed at a general meeting of
shareholders:

| |  | amendments
to our Articles;
| | - | ---------------------------

| |  | appointment
or termination of our auditors;
| | - | -------------------------------------------

| |  | appointment
and dismissal of directors;
| | - | ---------------------------------------

| |  | approval
of acts and transactions requiring general meeting approval under the Companies Law;
| | - | ---------------------------------------------------------------------------------------------

| |  | increase
or reduction of our authorized  share capital or the rights of  shareholders  or a class
        of shareholders;
| | - | --------------------------------------------------------------------------------------------------------------------------

| |  | any
merger as provided in section 320 of the Companies Law;
| | - | -----------------------------------------------------------

| |  | the
exercise of the board of directors powers by a general meeting, if the board of
directors is unable to exercise its powers and the exercise of any of its powers is vital
for our proper management, as provided in section 52(a) of the Companies Law.
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

In
addition, the Companies Law provides that an extraordinary meeting of our shareholders
shall be convened by the board, at the request of any two directors or one quarter of the
directors, or by request of one or more shareholders holding at least 5% of our issued
share capital and 1% of the voting rights, or by request of one or more shareholders
holding at least 5% of the voting rights. Shareholders requesting a special meeting must
submit their proposed resolution(s) with their request.

Our
Articles provide that our board of directors may from time to time, at their discretion,
borrow or secure the payment of any sum of money for the objectives of the Company. Our
directors may raise or secure the repayment of such sum in a manner, time and terms as
they see fit.

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According
to our Articles, the board of directors may delegate any authority they have to a
committee comprised of members of the board. Any committee to whom the boards powers
were delegated to must abide by the regulations enacted by the board in respect of such
delegated powers. In the absence of any such regulations, the committee must abide by our
Articles. Our board has currently appointed one committee, which is our Audit Committee as
described above in Item 6.

Transactions
with Certain Shareholders

The
Companies Law codifies the fiduciary duties that office holders, including
directors and executive officers, owe to a company. An office holder, is defined in the
Companies Law, as a (i) director, (ii) general manager, (iii) chief business manager, (iv)
deputy general manager, (v) vice general manager, (vi) executive vice president, (vii)
vice president, (viii) another manager directly subordinate to the managing director or
(ix) any other person assuming the responsibilities of any of the forgoing positions
without regard to such persons title. The duty of care prescribed by the Companies
Law requires an office holder to act with the level of care, which a reasonable office
holder in the same position would have acted under the same circumstances. The duty of
loyalty prescribed by the Companies Law generally requires an office holder to act in good
faith and for the good of the company.

The
Companies Law requires that an office holder of a company promptly disclose any personal
interest that he or she may have and all related material information known to him or her,
in connection with any existing or proposed transaction by the company. In addition, if
the transaction is an extraordinary transaction, as defined under Israeli law, the office
holder must also disclose any personal interest held by the office holders spouse,
siblings, parents, grandparents, descendants, spouses descendants and the spouses of
any of the foregoing, or by any corporation in which the office holder is a 5% or greater
shareholder, holder of 5% or more of the voting power, director or general manager or in
which he or she has the right to appoint at least one director or the general manager. An
extraordinary transaction is defined as a transaction not in the ordinary course of
business, not on market terms, or that is likely to have a material impact on the
companys profitability, assets or liabilities.

In
the case of a transaction that is not an extraordinary transaction, after the office
holder complies with the above disclosure requirement, only board approval is required
unless the Articles of Association of the company provide otherwise. The transaction must
not be adverse to the companys interest. If the transaction is an extraordinary
transaction, then, in addition to any approval required by the Articles of Association, it
must also be approved by the audit committee and by the board of directors, and, under
specified circumstances, by a meeting of the shareholders.

Agreements
regarding directors terms of employment require the approval of the audit committee,
the board of directors and the shareholders. In all matters in which a director has a
personal interest, including matters of his/her terms of employment, he/she shall not be
permitted to vote on the matter or be present in the meeting in which the matter is
considered. However, should a majority of the audit committee or of the board of directors
have a personal interest in the matter then:

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| |  | all
of the  directors  shall be  permitted  to vote on the matter and attend the meeting in
which         the matter is considered; and
| | - | ---------------------------------------------------------------------------------------------------------------------------------------

| |  | the
matter requires approval of the shareholders at a general meeting.
| | - | ----------------------------------------------------------------------

According
to the Companies Law, the disclosure requirements discussed above also apply to a
controlling shareholder of a public company. In general, extraordinary transactions with a
controlling shareholder or in which a controlling shareholder has a personal interest, and
agreements relating to employment and compensation terms of a controlling shareholder
require the approval of the audit committee, the board of directors and the shareholders
of the company. The term controlling shareholder is defined as a shareholder
who has the ability to direct the activities of a company, other than if this power
derives solely from the shareholders position on the board of directors or any other
position with the company. The definition also includes shareholders that hold 25% or more
of the voting rights if no other shareholder owns more than 50% of the voting rights in
the company.

The
shareholder approval must either include at least one-third of the shares held by
disinterested shareholders who are present in person or by proxy at the meeting and who
are voting thereon, or, alternatively, the total shareholdings of the disinterested
shareholders who vote against the transaction must not represent more than one percent of
the voting rights in the company.

In
addition, a private placement of securities that (i) includes the issuance of twenty
percent or more of the companys outstanding voting rights (prior to such issuance)
in which the consideration, in whole or in part, is not in cash or in registered
securities or is not at market value, and as a result of which a person holding five
percent of more of the companys share capital or voting rights will increase or that
will cause any person to become, as a result of the issuance, a holder of more than five
percent of the companys outstanding share capital, or (ii) will cause any person to
become, as a result of the issuance, a controlling shareholder of the company, requires
approval by the board of directors and the shareholders of the company. The regulations to
the Companies Law provide certain exceptions. Any placement of securities that does not
fit the above description may be issued at the discretion of the Board of Directors.

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

| |  | any
amendment to the Articles of Association;
| | - | ---------------------------------------------

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

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

| |  | approval
of interested party transactions that require shareholder approval.
| | - | ----------------------------------------------------------------------------

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In
addition, any controlling shareholder, any shareholder who knows that it possesses the
power to determine the outcome of a shareholder vote and any shareholder who has the power
to appoint or prevent the appointment office holder in the company is under a duty to act
with fairness towards the company. The Companies Law does not describe the substance of
this duty, except to state that the remedies generally available upon a breach of contract
will apply also in the event of a breach of the duty to act with fairness.

Limitation on Ownership
of Securities

The
ownership and voting of our ordinary shares by non-residents of Israel are not restricted
in any way by our articles of association or by the laws of the State of Israel, except
for shareholders who are subjects of countries which are in a state of war with Israel.

Mergers and Acquisitions;
Anti-Takeover Provisions

The
Companies Law includes provisions with respect to the approval of corporate mergers that
are applicable to us. These provisions require that the board of directors of each company
that is party to the merger approve the transaction. In addition, the shareholders of each
company must approve the merger by a vote of the majority of the companys shares,
present and voting on the proposed merger at a shareholders meeting. In determining
whether the requisite majority has approved the merger, shares held by the other party to
the merger or any person holding at least 25% of such other party or otherwise affiliated
with such other party are excluded from the vote.

The
Companies Law does not require court approval of a merger other than in specified
situations. However, upon the request of a creditor of either party to the proposed
merger, a court may delay or prevent the merger if it concludes that there exists a
reasonable concern that as a result of the merger, the surviving company will be unable to
satisfy the obligations of any of the parties of the merger to their creditors.

A
merger may not be completed unless at least 50 days have passed from the date that a
proposal of the merger was filed with the Israeli Registrar of Companies by each merging
company and 30 days from the date that shareholder approval of both merging companies was
obtained. The merger proposal may be filed once a shareholder meeting has been called to
approve the merger.

The
Companies Law also provides that the acquisition of shares in a public company on the open
market 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. The rule does not apply if there
already is another 25% shareholder of the company. Similarly, the 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 45% shareholder of the company,
unless there already is a 45% shareholder of the company.

If,
following any acquisition of shares, the purchaser would hold 90% or more of the shares of
the company that acquisition must be made by means of a tender offer for all of the target
companys shares. An acquirer who wishes to eliminate all minority shareholders must
do so by means of a tender offer and acquire 95% of all shares not held by or for the
benefit of the acquirer prior to the acquisition. However, in the event that the tender
offer to acquire that 95% is not successful, the acquirer may not acquire tendered shares
if by doing so the acquirer would own more than 90% of the shares of the target company.

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# Material Contracts

Other
than the registration rights agreement, service agreement and lease agreement described in
Item 6  Major Shareholders and Related Party Transactions  Related Party
Transactions, our current lease agreement described below and the Microsystems
investment contract described in Item 4. History and development of the
Company, all of the contracts that we have entered into over the past two years have
been in the ordinary course of our business.

In
February 2003, we leased from a private commercial property owner the same office space
that we had previously leased from ZCT, under a new lease agreement. The initial term of
the lease was three years, expiring in June 30, 2006, following which we exercised our
option to extend the lease for an additional three years.

# Exchange Controls

There
are currently no Israeli currency control restrictions on payments of dividends or other
distributions with respect to our ordinary shares or the proceeds from the sale of the
shares, except for the obligation of Israeli residents to file reports with the Bank of
Israel regarding some transactions. However, legislation remains in effect under which
currency controls can be imposed by administrative action at any time.

The
ownership or voting of our ordinary shares by non-residents of Israel, except with respect
to citizens of countries which are in a state of war with Israel, is not restricted in any
way by our memorandum of association or articles of association or by the laws of the
State of Israel.

# Taxation

The
following is a summary of the current tax law applicable to companies in Israel, with
special reference to its effect on our subsidiaries and us.  The following also
contains a discussion of specified Israeli tax consequences to our shareholders and
government programs from which we, and some of our subsidiaries, benefit.  To the
extent that the discussion is based on tax legislation that has not been subject to
judicial or administrative interpretation, there can be no assurance that the views
expressed in the discussion will be accepted by the tax authorities in question.

The
discussion is not intended, and should not be construed, as legal or professional tax
advice and is not exhaustive of all possible tax considerations.

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# General Corporate Tax
Structure

Generally,
as of January 1, 2007, Israeli companies are subject to corporate tax at a rate of 29% on
taxable income and are subject to capital gains tax at a rate of 25% on capital gains
derived after January 1, 2003 (other than capital gains from the sale of listed
securities, which are subject to tax at the current rate of 31%). The effective tax rate
payable by a company that derives income from an Approved Enterprise (as discussed below),
however, may be considerably less. In July 2005, an amendment to the corporate tax rates
was approved by the Israeli Knesset. The amendment provides that taxes paid by Israeli
companies will be gradually reduced from a rate of 31% for the 2006 tax year, to a rate of
29% for the 2007 tax year, 27% for the 2008 tax year, 26% for the 2009 tax year and 25%
for the 2010 tax year and thereafter. Capital gains derived after January 1, 2003 (other
than gains derived from the sale of listed securities that are taxed at the prevailing
corporate tax rates) are subject to tax at a rate of 25%.. Under the Income Tax Law
(Adjustment for Inflation) 1985, income for tax purposes is measured in terms of earnings
in NIS adjusted for the increase in the Israeli Consumer Price Index. The difference
between the annual changes in the Israeli Consumer Price Index and in the NIS/U.S. Dollar
exchange rates causes a difference between taxable income and the income reflected in our
financial statements. See note 13D of our financial statements.

# Law for the
Encouragement of Capital Investments, 1959

The
Law for the Encouragement of Capital Investment, 1959, or the Investment Law provides that
a proposed capital investment in production facilities or other eligible facilities may be
designated as an Approved Enterprise. An application to the Investment Center of the
Ministry of Industry and Trade, or the Investment Center, must be submitted to obtain
Approved Enterprise status. Each instrument of approval for an Approved Enterprise relates
to a specific investment program that is defined both by the financial scope of the
investment, including sources of funds, and by the physical characteristics of the
facility or other assets.

The
tax benefits available under any instrument of approval relate only to taxable profits
attributable to the specific program and are contingent upon meeting the criteria set out
in the instrument of approval. If a company has more than one approval or only a portion
of its capital investments are approved, its effective tax rate is the weighted average of
the applicable rates. Subject to certain qualifications, however, if a company with one or
more approvals distributes dividends, the dividends are deemed attributable to the entire
enterprise. As explained below, following the amendment of the Investment Law which became
effective on April, 1, 2005, companies may receive tax benefits under the law without
applying for an Approved Enterprise status.

Tax benefits for income
from Approved Enterprises approved before April 1, 2005

Before
April 1, 2005, an Approved Enterprise was entitled to receive a grant from the Government
of Israel or an alternative package of tax benefits, which we refer to as alternative
benefits. We have elected to forego the entitlement to grants and have applied for the
alternative benefits, under which undistributed income that we generate from our Approved
Enterprises will be completely tax-exempt for two years commencing from the year that we
first produce taxable income and will be subject to a tax rate of 10% to 25% for an
additional five to eight years, depending on the extent of foreign investment in the
company. Alternative benefits are available to us until the earlier of (i) seven
consecutive years, commencing in the year in which the specific Approved Enterprise first
generates taxable income, (ii) twelve years from commencement of production and (iii)
fourteen years from the date of approval of the Approved Enterprise status.

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Dividends
paid out of income generated by an Approved Enterprise (or out of dividends received from
a company whose income is generated by an Approved Enterprise) are generally subject to
withholding tax at the rate of 15%. This withholding tax is deductible at source by the
Approved Enterprise. The 15% tax rate is limited to dividends and distributions out of
income derived during the benefits period and actually paid at any time up to twelve years
thereafter. We elected the alternative benefits track, and will additionally be subject to
pay corporate tax at the rate of 25% in respect of the gross amount of the dividend that
we may distribute out of profits which were exempt from corporate tax in accordance with
the provisions of the alternative benefits track. If we are also deemed to be a Foreign
Investors Company, or FIC (as defined below), and if the FIC is at least 49% owned by
non-Israeli residents, the corporate tax rate paid by us in respect of the dividend we may
distribute from income derived by our Approved Enterprises during the tax exemption period
may be taxed at a lower rate.

As
we have elected the alternative benefits package, we are not obligated to attribute any
part of dividends that we may distribute to exempt profits, and we may decide from which
years profits to declare dividends. We currently intend to reinvest any income that
we may in the future derive from our Approved Enterprise programs and not to distribute
the income as a dividend.

If
we qualify as a FIC, our Approved Enterprises will be entitled to additional tax benefits.
Subject to certain conditions, a FIC is a company with a level of foreign investment of
more than 25%. The level of foreign investment is measured as the percentage of rights in
the company (in terms of shares, rights to profits, voting and appointment of directors),
and of combined share and loan capital, that are owned, directly or indirectly, by persons
who are not residents of Israel. Such a company will be eligible for an extension of the
period during which it is entitled to tax benefits under its Approved Enterprise status
(so that the benefit periods may be up to ten years) and for further tax benefits if the
level of foreign investment exceeds 49%.

The benefits available to an Approved
Enterprise are subject to the fulfillment of conditions stipulated in the Investment Law
and its regulations and the criteria in the specific certificate of approval, as described
above. If a company does not meet these conditions, it would be required to refund the
amount of tax benefits, together with consumer price index linkage adjustment and
interest. In February 2007 we received a letter from the investment center stating that
our approved enterprise from April 2001 is about to be terminated if we do not submit a
final performance report. We have decided not to pursue the completion of this investment
plan, as we have not had any tax benefits from it, and we intend to apply for tax benefits
pursuant the amended law as described below, if and when relevant.

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Tax benefits under an
Amendment that became effective on April 1, 2005

On
April 1, 2005, a significant amendment to the Investment Law became effective. The
Investment Law provides that terms and benefits included in any certificate of approval
that was granted before the amendment came into effect will remain subject to the
provisions of the Investment Law as they were on the date of such approval. Pursuant to
the amendment, the Investment Center will continue to grant Approved Enterprise status to
qualifying investments. The amendment, however, limits the scope of enterprises that may
be approved by the Investment Center by setting criteria for the approval of a facility as
an Approved Enterprise, such as provisions generally requiring that at least 25% of the
Approved Enterprises income will be derived from export.

The
amendment provides that Approved Enterprise status will only be necessary for receiving
grants. As a result, it is no longer necessary for a company to acquire Approved
Enterprise status in order to receive the tax benefits previously available under the
alternative benefits provisions. Rather, a company may claim the tax benefits offered by
the Investment Law directly in its tax returns, provided that its facilities meet the
criteria for tax benefits set out by the amendment. Companies are entitled to approach the
Israeli Tax Authority for a pre-ruling regarding their eligibility for benefits under the
amendment.

Tax
benefits are available under the amendment to production facilities (or other eligible
facilities), which are generally required to derive more than 25% of their business income
from export. In order to receive the tax benefits, the amendment states that the company
must make an investment which meets all the conditions set out in the amendment for tax
benefits and exceeds a minimum amount specified in the Investment Law. Such investment
allows the company to receive a benefited enterprise status, and may be made over a period
of no more than three years ending at the end of the year in which the company requested
to have the tax benefits apply to the benefited enterprise. Where the company requests to
have the tax benefits apply to an expansion of existing facilities, only the expansion
will be considered to be a benefited enterprise and the companys effective tax rate
will be the weighted average of the applicable rates. In this case, the minimum investment
required in order to qualify as a benefited enterprise is required to exceed a certain
percentage of the value of the companys production assets before the expansion.

The
extent of the tax benefits available under the amendment to qualifying income of a
benefited enterprise are determined by the geographic location of the benefited
enterprise. The location will also determine the period for which tax benefits are
available.

Dividends
paid out of income derived by a benefited enterprise will be treated similarly to payment
of dividends by an Approved Enterprise under the alternative benefits track. Therefore,
dividends paid out of income derived by a benefited enterprise (or out of dividends
received from a company whose income is derived from a benefited enterprise) are generally
subject to withholding tax at the rate of 15%. The reduced rate of 15% is limited to
dividends and distributions out of income derived from a benefited enterprise during the
benefits period and actually paid at any time up to twelve years thereafter. A company
qualifying for tax benefits under the amendment which pays a dividend out of income
derived by its benefited enterprise during the tax exemption period will be subject to
corporate tax in respect of the gross amount of the dividend at the otherwise applicable
rate of 25%, or lower in the case of a qualified FIC which is at least 49% owned by
non-Israeli residents. The dividend recipient would be subject to tax at the rate of 15%
on the amount received which tax would be deducted at source.

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As
a result of the Amendment, tax-exempt income generated under the provisions of the new law
will subject us to taxes upon distribution of the tax-exempt income to shareholders or
liquidation of the company, and we may be required to record a deferred tax liability with
respect to such tax-exempt income.

The amendment sets a minimal amount
of foreign investment required for a company to be regarded as a FIC.

# Law for the
Encouragement of Industrial Research and Development, 1984

Under
the Law for the Encouragement of Industrial Research and Development, 1984 (the
Research Law), research and development programs approved by the Research
Committee of the Office of the Chief Scientist (the Research Committee) are
eligible for grants or loans if they meet certain criteria, in return for the payment of
royalties from the sale of the product developed in accordance with the program. Once a
project is approved, the Office of the Chief Scientist, or OCS, will award grants of up to
50% of the projects expenditures in return for royalties, usually at rates between
3% to 5% of sales of products developed with such grants, up to a dollar-linked amount
equal to 100% to 150% of such grants. Grants received under programs approved after
January 1, 1999, are subject to interest at an annual rate of LIBOR for 12 months
applicable to dollar deposits, which will accrue annually based on the LIBOR rate
published on the first day of each year.

For
information regarding restrictions upon, and conditions to, (a) the manufacture outside of
Israel of products using technology developed using OCS funding and (b) the transfer of
such technology to a non-Israeli entity whether through the direct transfer of the
technology or through a transaction involving the company that received such funding, see
Item 5  Operating and Financial Review and Prospects  Research and
development, patents, licenses, etc.

# Tax Benefits and Grants
for Research and Development

Israeli
tax law allows, under specified conditions, a tax deduction for research and development
expenditures, including capital expenditures, for the year in which they are incurred.
These expenses must relate to scientific research and development projects, and must be
approved by the relevant Israeli government ministry, determined by the field of research.
Furthermore, the research and development must be for the promotion of the company and
carried out by or on behalf of the company seeking such tax deduction. The amount of such
deductible expenses, however, is reduced by the sum of any funds received through
government grants for the finance of such scientific research and development projects.
Expenditures not so approved are deductible over a three-year period.

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# Law for the
Encouragement of Industry (Taxes), 1969

The
following preferred corporate tax benefits, among others, are available to Industrial
Corporations (including us).

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

| |  | Deduction,
for tax purposes, of expenses incurred in connection with certain public securities
issuances.
| | - | ---------------------------------------------------------------------------------------------------------

| |  | Accelerated
depreciation rates on both equipment and buildings.
| | - | ---------------------------------------------------------------

| |  | The
right to elect, under specified conditions, to file a consolidated tax return with
additional related Israeli industrial companies and an industrial holding company.
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------

# Taxation under
Inflationary Conditions

Under
the Law for the Encouragement of Industry (Taxes), 1969, industrial companies, as defined
under the law, are entitled to the following tax benefits, among others:

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

| |  | expenses
related to a public offering are deductible over a three-year period in equal amounts;
| | - | -----------------------------------------------------------------------------------------------

| |  | the
right to elect, under specified conditions, to file a consolidated tax return with other
         related Israeli industrial companies; and
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------

| |  | accelerated
depreciation rates on equipment and buildings.
| | - | ----------------------------------------------------------

Eligibility
for benefits under the Law for the Encouragement of Industry is not subject to receipt of
prior approval from any governmental authority. Under the law, an industrial company is
defined as 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 government loans, capital
gains, interest and dividends, is derived from an industrial enterprise owned by it. An
industrial enterprise is defined as an enterprise whose major activity in a given tax year
is industrial production activity.

We
believe that we currently qualify as an industrial company within the definition under the
Law for the Encouragement of Industry (Taxes). No assurance can be given that we will
continue to qualify as an industrial company or that the benefits described above will be
available in the future.

# Capital Gains Tax

Israeli
law imposes a capital gains tax on the sale of capital assets by both residents and
non-residents of Israel. The law distinguishes between the Real Gain and the
Inflationary Amount. The Real Gain is the excess of the total capital gain
over the Inflationary Amount, computed on the basis of the increase in the Israeli
Consumer Price Index between the date of purchase and the date of sale. The Inflationary
Amount accumulated prior to December 31, 1993 is taxed at a rate of 10% for residents of
Israel (reduced to no tax for non-residents if calculated according to the exchange rate
of the dollar instead of the Israeli CPI), while the Inflationary Amount accumulated
following December 31, 1993 is exempt from any capital gains tax. Until the end of the
year 2002, capital gains from the sale of our ordinary shares were generally exempt from
Israeli Capital Gains Tax. This exemption did not apply to a shareholder whose taxable
income is determined pursuant to the Israeli Income Tax Law (Inflationary Adjustments),
1985, or to a person whose gains from selling or otherwise disposing of our securities are
deemed to be business income.

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An
individual is subject to a 20% tax rate on real capital gains derived from the sale of
shares, as long as the individual has not demanded a deduction of interest and linkage
differences in connection with the purchase and holding of the securities; and as long as
the individual is not a substantial shareholder of the company issuing the shares, which
is generally a shareholder with 10% or more of the right to profits, the right to nominate
a director and voting rights. A substantial shareholder (or a shareholder who has demanded
a deduction of interest and linkage differences) will be subject to tax at a rate of 25%
on real capital gains derived from the sale of shares issued by the company. The
determination of whether the individual is a substantial shareholder will be made on the
date that the securities are sold. In addition, the individual will be deemed to be a
substantial shareholder if at any time during the twelve months preceding this date he or
she had been a substantial shareholder. The foregoing tax rates, however, will not apply
to dealers in securities.. However, according to the tax reform legislation, non-residents
of Israel will be exempt from any capital gains tax from the sale of our ordinary shares
so long as the gains are not derived through a permanent establishment that the
non-resident maintains in Israel, and so long as our ordinary shares remain listed for
trading as described above.

Corporations
are subject to corporate tax rates in respect of capital gains from the sale of shares in
Israeli publicly traded companies. As described above in General Corporate Tax
Structure, recent changes in the law reduced the corporate tax rate from 31% in 2006
to 29% in 2007, 27% in 2008, 26% in 2009 and 25% in 2010. Between 2006 and 2009, however,
corporations whose taxable income was not determined immediately before the 2006 Tax
Reform was published, pursuant to part B of the Israeli Income Tax Law (Inflationary
Adjustments), 1985, or pursuant to the Income Tax Regulations (Rules on Bookkeeping by
Foreign Invested Companies and Certain Partnership and Determination of their Chargeable
Income), 1984, or the Dollar Regulations, will generally be taxed at a rate of 25% on
their capital gains from the sale of their shares.

# U.S.-Israel Tax Treaty

Pursuant
to the Convention Between the Government of the United States of America and the
Government of Israel with Respect to Taxes on Income (referred to as the U.S.-Israel Tax
Treaty), the sale, exchange or disposition of Ordinary Shares by a person who qualifies as
a resident of the United States within the meaning of the U.S.-Israel Tax Treaty and who
is entitled to claim the benefits afforded to such resident by the U.S.-Israel Tax Treaty
(called a Treaty U.S. Resident) will generally not be subject to Israeli
capital gains tax unless (a) such Treaty U.S. Resident is an individual and was present in
Israel for more than 183 days during the relevant taxable year or (b) such Treaty U.S.
Resident holds, directly or indirectly, shares representing 10% or more of the voting
power of a company during any part of the 12-month period preceding such sale, exchange or
disposition. A sale, exchange or disposition of shares by a Treaty U.S. Resident who
either is an individual and was present in Israel for more than 183 days during the
relevant taxable year or who holds, directly or indirectly, shares representing 10% or
more of the voting power of a company at any time during such preceding 12-month period
would be subject to such Israeli tax, to the extent applicable; however, under the
U.S.-Israel Tax Treaty, such Treaty U.S. Resident would be permitted to claim a credit for
such taxes against the U.S. income tax imposed with respect to such sale, exchange or
disposition, subject to the limitations in U.S. laws applicable to foreign tax credits.

70

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# Taxation of Non-Residents

Corporations
are subject to corporate tax rates in respect of capital gains from the sale of shares in
Israeli publicly traded companies. As described above in General Corporate Tax
Structure, recent changes in the law reduced the corporate tax rate from 31% in 2006
to 29% in 2007, 27% in 2008, 26% in 2009 and 25% in 2010. Between 2006 and 2009, however,
corporations whose taxable income was not determined immediately before the 2006 Tax
Reform was published, pursuant to part B of the Israeli Income Tax Law (Inflationary
Adjustments), 1985, or pursuant to the Income Tax Regulations (Rules on Bookkeeping by
Foreign Invested Companies and Certain Partnership and Determination of their Chargeable
Income), 1984, or the Dollar Regulations, will generally be taxed at a rate of 25% on
their capital gains from the sale of their shares.

Non-residents
of Israel, including corporations, will generally be exempt from any capital gains tax
from the sale of shares so long as (i) the gains are not derived through a permanent
establishment that the non-resident maintains in Israel, (ii) the shares remain listed for
trading on a designated stock market and (iii) the shares were purchased after being
listed on the designated stock market. These provisions dealing with capital gains are not
applicable to a person whose gains from selling or otherwise disposing of the shares are
deemed to be business income. However, non-Israeli corporations will not be entitled to
the foregoing exemptions if an Israeli resident (i) has a controlling interest of 25% or
more in such non-Israeli corporation, or (ii) is the beneficiary of or is entitled to 25%
or more of the revenues or profits of such non-Israeli corporation, whether directly or
indirectly. In addition, pursuant to the Convention between the Government of the United
States of America and the Government of Israel with Respect to Taxes on Income, as
amended, which we refer to as the United States-Israel Tax Treaty, the sale, exchange or
disposition of ordinary shares by a person who qualifies as a resident of the United
States within the meaning of the United States-Israel Tax Treaty and who is entitled to
claim the benefits afforded to such person by the United States-Israel Tax Treaty, which
we refer to as a Treaty United States Resident, generally will not be subject to the
Israeli capital gains tax unless such Treaty United States Resident holds, directly or
indirectly, shares representing 10% or more of our voting power during any part of the
twelve-month period preceding such sale, exchange or disposition, subject to certain
conditions. Under the United States-Israel Tax Treaty, such Treaty United States Resident
would be permitted to claim a credit for such taxes against the U.S. federal income tax
imposed with respect to such sale, exchange or disposition, subject to the limitations in
U.S. laws applicable to foreign tax credits. The United States-Israel Tax Treaty does not
relate to state or local taxes in the U.S.

71

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---



Non-residents
of Israel are subject to income tax on income accrued or derived from sources in Israel.
These sources of income include passive income, including dividends, royalties and
interest, as well as non-passive income from services rendered in Israel. On distribution
of dividends other than bonus shares or share dividends, income tax is withheld at the
rate of 20% for dividends paid to an individual or foreign corporation who is not a
substantial shareholder, 25% for dividends paid to a substantial shareholder and 15% for
dividends generated by an Approved Enterprise, unless in each case a different rate is
provided in a treaty between Israel and shareholders country of residence. Under the
United States-Israel Tax Treaty, the maximum tax on dividends paid to a holder of ordinary
shares who is a U.S. resident will be 25%. The maximum tax rate on dividends not generated
by an Approved Enterprise paid to a U.S. corporation holding at least 10% of our voting
power is 12.5%.

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

# Documents on Display

We
are required to file reports and other information with the SEC under the Securities
Exchange Act of 1934 and the regulations thereunder applicable to foreign private issuers.
Reports and other information filed by us with the SEC may be inspected and copied at the
SECs public reference facilities described below. Although as a foreign private
issuer we are not required to file periodic information as frequently or as promptly as
United States companies, we generally do publicly announce our quarterly and year-end
results promptly and file periodic information with the SEC under cover of Form 6-K. As a
foreign private issuer, we are also exempt from the rules under the Exchange Act
prescribing the furnishing and content of proxy statements and our officers, directors and
principal shareholders are exempt from the reporting and other provisions in Section 16 of
the Exchange Act.

This
annual report and the exhibits thereto, are available for inspection and copying at the
public reference facilities of the Securities and Exchange Commission located a Room 1024,
450 Fifth Street, NW, Washington, D.C. 20549, and the Commissions regional offices
located in New York, New York and Chicago, Illinois. Copies of all or any part of the
annual report or other filings may be obtained from these offices after payment of fees
required by the Commission. Please call the Commission at 1-800-SEC-0330 for further
information. The Exchange Act file number for our Securities and Exchange Commission
filing is 1-8201.

The
Commission also maintains a website at http://www.sec.gov from which certain filings may
be accessed.

All
documents referenced herein concerning us are archived and may also be inspected at our
head offices located at 11 Gush Etzion Street, Givat Shmuel, Israel. Information about us
is also available on our website at http://www.cimatron.com. Such information is
not part of this annual report.

72

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---



|Item 11. | Quantitative
and Qualitative Disclosures About Market Risks
|-------- | -----------------------------------------------------------

We
are exposed to market risks from changes in foreign currency exchange rates and interest
rates, which could impact our results of operations and financial condition. We seek to
manage the exposure to these market risks through our regular operating and financing
activities and through the use of foreign currency exchange contracts and other financial
instruments.

All
of such financial instruments are managed and controlled under a program of risk
management in accordance with established policies. These policies are reviewed and
approved by our Board of Directors. Our treasury operations are subject to an internal
audit on a regular basis.

As
of December 31, 2006 we had no currency exchange options. As of May 31, 2007, we had
currency exchange options to sell up to 1.47 million Euro for a total amount of $1.91
million, and had written currency exchange options to sell up to 1.47 million Euro for a
total amount of $2.03 million that were scheduled to expire prior to December 31, 2007. As
of December 31, 2006, we had currency forward transactions to sell $2.04 for a total
amount of NIS 9.17 million until March 29, 2007. As of May 31, 2007 we had no currency
forward transactions.

Interest Rate Risks

Our
exposure to market rate risk for changes in interest rates relates primarily to our
investment portfolio. We have not used derivative financial instruments in our investment
portfolio. As of December 31, 2006, we had financial assets totaling approximately $6.9
million. Fixed rate financial assets, comprised of cash, bank deposits and debt
securities, totaled approximately $5.6 million. For the year 2006 we have classified all
of our marketable debt securities as available for sale securities which
exposes the consolidated statement of operations or balance sheets to fluctuations in
interest rates. Variable rate financial assets totaled approximately $1.3 million. The
net decrease in our earnings for the next year from our variable rate financial assets
resulting from a 10% interest rate decrease would be approximately $20,000 holding other
variables constant.

Currency Exchange Rate
Risks

Our
operating and pricing strategies take into account changes in exchange rates over time.
However, there can be no assurance that future fluctuations in the value of foreign
currencies will not have a material adverse effect on our business, operating results or
financial condition. As of the beginning of 2000, we have been using financial instruments
to hedge the following foreign currency exposure risks:

Our
Subsidiaries  We operate internationally and our subsidiaries in Germany and
France conduct their respective operations in Euros. This exposes us to market risk from
changes in foreign exchange rates to the extent that the functional currency of our
subsidiaries will decline in value as compared to the U.S. dollar, resulting in a foreign
currency exchange rate loss. Assuming an adverse 20% foreign exchange rate fluctuation, we
would experience exchange rate losses of approximately $661 thousand excluding the effect
of our hedging transactions.

73

---

---



Our
Providers  Commencing on June 1, 2000 we initiated a Euro denominated price list
for all of our Providers in countries whose currency is linked to the Euro. Our revenues
from these Providers are therefore exposed to exchange rate differences between the Euro
and the United States dollar. Assuming an adverse 20% foreign exchange rate fluctuation,
we would experience exchange rate losses from these providers of approximately $631
thousand excluding the effect of our hedging transactions.

Expenses
in New Israeli Shekels

The
cost of our Israel operations, as expressed in U.S. dollars, is influenced by the extent
to which any increase in the rate of inflation in Israel is not offset (or is offset on a
lagging basis) by a devaluation of the NIS in relation to the U.S. dollar. The inflation
rate in Israel was (0.1)%, 2.4%, and 1.2% in 2006, 2005 and 2004, respectively. The
devaluation (revaluation) of the NIS against the U.S. dollar was (8.2)%, 6.4% and (1.6)%
in 2006, 2005, and 2004, respectively. Assuming a 10% devaluation of the U.S. dollar
against the NIS, and assuming a maximum deviation of 1% in inflation, we would experience
exchange rate losses of approximately $1.0 million excluding the effect of our hedging
transactions.

A
significant portion of our expenditures is employee compensation-related. Salaries are
paid in NIS and may be adjusted for changes in the CPI through salary increases or
adjustments. This increases salary expenses in U.S. dollar terms. The devaluation /
revaluation of the NIS against the U.S. dollar decreases / increases employee compensation
expenditures as expressed in dollars proportionally. Some of our other NIS-based expenses
are either currently adjusted to U.S. dollars or are adjusted to the CPI.

|Item 12. | Descriptions
of Securities Other than Equity Securities
|-------- | -------------------------------------------------------

Not Applicable

# 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.

74

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|Item 15. | Controls
and Procedures
|-------- | -----------------------

(a) Disclosure
Controls and Procedures  our management evaluated, with the participation of our
principal executive and principal financial officers, the effectiveness of our disclosure
controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange
Act), as of December 31, 2006.  Based on their evaluation, our principal
executive and principal financial officers concluded that our disclosure controls and
procedures were effective as of December 31, 2006.

(b)
Not applicable.

(c)
Not applicable.

(d) Changes
in Internal Control Over Financial Reporting  There has been no change in our
internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f)
under the Exchange Act) that occurred during 2006, that has materially affected, or is
reasonably likely to materially affect, our internal control over financial reporting.

|Item 16A. | AUDIT
COMMITTEE FINANCIAL EXPERT
|--------- | --------------------------------

Our
Board of Directors has determined that Ofra Brown qualifies to serve as our audit
committee financial expert as well as our external director with financial
expertise under the Companies Law.

|Item 16B. | CODE
OF ETHICS
|--------- | --------------

We
have adopted a code of ethics that applies to our Chief Executive Officer, Chief Financial
Officer, Controller and persons performing similar functions, and which complies with the
rules promulgated by the SEC. We will provide to any person, without charge, upon request,
a copy of the code of ethics and respond to any questions concerning the code. Requests to
receive a copy of the code should be sent to us at our corporate headquarters located at
11 Gush Etzion Street, Givat Shmuel 54030, Israel, Attention: Chief Financial Officer. In
addition, we have adopted a code of business conduct that applies to all of our directors,
officers and employees, and which complies with the rules of the Nasdaq Capital Market.

The
Chairman of our Audit Committee may approve a request by our Chief Executive Officer,
Chief Financial Officer, Principal Accounting Officer, Controller or any person performing
similar functions for a waiver from the requirements of the code of ethics pertaining to
(i) honest and ethical conduct, including the ethical handling of actual or apparent
conflicts of interest between personal and professional relationship; (ii) full, fair,
accurate, timely and understandable disclosure in reports and documents that we must file
with, or submit to, the Securities and Exchange Commission and in other public
communications made by us; (iii) compliance with applicable governmental laws, rules and
regulations; (iv) the prompt internal reporting of violation of the code to the Chairman
of our Audit Committee; and (v) accountability for adherence to the code; provided in each
case that the person requesting such waiver provides to our Audit Committee a full
disclosure of the particular circumstances relating to such request. The Chairman of our
Audit Committee will first determine whether a waiver of the relevant requirements of the
code of ethics is required and, if such waiver is required, whether a waiver will be
granted. The person requesting such waiver may be required to agree to certain conditions
before a waiver or a continuing waiver is granted.

75

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---



Any
amendments to the code of ethics and all waivers from compliance with the code of ethics
granted to the persons subject thereto have to be publicly disclosed by us as, and to the
extent, required by any applicable law, rule and regulations.

|Item 16C. | PRINCIPAL
ACCOUNTANT FEES AND SERVICES
|--------- | --------------------------------------

Audit
and Audit-related Fees

The
aggregate fees billed for professional services rendered to us by our principal
accountants for the audit of our financial statements and for audit-related services in
2004, 2005 and 2006 were $55,000, $66,000 and $66,000, respectively.

Tax
Fees

The
aggregate fees billed for professional services rendered to us by our principal
accountants for tax compliance, tax advice and tax planning in 2004, 2005 and 2006 were
$37,000, $18,000 and $0, respectively. The services provided to us by our principal
accountants in 2004 were mainly related to the tax assessments process performed by the
Israeli income tax authorities.In addition, in 2005 we received from our principal
accountants tax advice with respect to a transfer pricing study.

All
Other Fees

We
did not receive from our principal accountants any other products or services, other than
the services disclosed above, in 2005 and 2006.

Audit
Committee Approval

In
December 2006, our shareholders approved the engagement of Brightman Almagor & Co., a
member of Deloitte Touche Tohmatsu, as our independent auditors for the fiscal year ended
December 31, 2006 and until the next annual shareholder meeting. Such approval followed
the approval by our board of directors and audit committee of such engagement.

|Item 16D. | EXEMPTIONS
FROM THE LISTING STANDARDS FOR AUDIT COMMITTEES - Not applicable
|--------- | ---------------------------------------------------------------------------

|Item 16E. | REPURCHASE
OF EQUITY SECURITIES BY THE ISSUER AND AFFLIATED PURCHASERS - Not applicable
|--------- | ---------------------------------------------------------------------------------------

76

---

---



# PART III

|Item 17. | Financial
Statements
|-------- | --------------------

Not Applicable

|Item 18. | Financial
Statements
|-------- | --------------------

See page F-1 through F-25.

77

---

---



|Item 19. | Exhibits
|-------- | --------

|1.1 |  | Amended
and Restated Articles of Association.*
|--- |  | ----------------------------------------------

|4.1 |  | Services
Agreement with Koonras Technologies Ltd. and DBSI Investments   Ltd., as assigned to
         them by Zeevi Computers and Technology Ltd.**
|--- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------

|4.2 |  | Letter
of Agreement with Microsystem Srl and all the shareholders of Microsystem Srl dated May
24, 2005, including the First Call Option Agreement, the Second Call Option Agreement,
and the Put Option Agreement, and the Shareholders Agreement, all dated July 1, 2005 with
Microsystem Srl and all the shareholders of Microsystem Srl.***
|--- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.2 |  | Registration
Rights Agreement with Koonras Technologies Ltd. and DBSI Investments Ltd.
|--- |  | --------------------------------------------------------------------------------------

|8.1 |  | List
of subsidiaries.
|--- |  | ---------------------

|12.1 |  | Certificate
of Chief Executive Officer pursuant to Rule 13a-14(a)/Rule 15d-14(a)
|---- |  | --------------------------------------------------------------------------------

|12.2 |  | Certificate
of Chief Financial Officer pursuant to Rule 13a-14(a)/Rule 15d-14(a)
|---- |  | --------------------------------------------------------------------------------

|13 |  | Certification
of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C.
         Section 1350
|-- |  | ----------------------------------------------------------------------------------------------------------------

|15.1 |  | Consent
of Independent Public Accountants.
|---- |  | ------------------------------------------

|* | Incorporated
by reference to our current report on Form 6-K, filed on November 22, 2006.
|- | ----------------------------------------------------------------------------------------

|** | Incorporated
by reference to our Registration Statement on Form F-1, File No. 333-1484, as amended,
filed with the Securities and Exchange Commission on February 16, 1996.
|-- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|*** | Incorporated
by reference to our Annual Report on Form 20-F for the fiscal year ended December 31,
2005, filed June 29, 2006 (File No. 0-27974).
|--- | ------------------------------------------------------------------------------------------------------------------------------------------------

78

---

---



# SIGNATURES

Pursuant to the requirements of
Section 12 of the Securities Exchange Act of 1934, the registrant certifies that it meets
all the requirements for filing on Form 20-F and has duly caused and authorized the
undersigned to sign this annual report on its behalf in the City of Givat Shmuel, State of
Israel, on this 28th day of June, 2007.

| |  | CIMATRON LTD.By: /s/ Dan Haran 
Dan HaranPresident and Chief Executive Officer
| |  | --------------------------------------------------------------------------------------------

79

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---

# CIMATRON LIMITED

# CONSOLIDATED FINANCIAL
STATEMENTS

# TABLE OF CONTENTS

|                                                                               | Page      
|------------------------------------------------------------------------------ | ----------
|
|
|
|
|Report of Independent Registered Public Accounting Firm                        | F-2       
|                                                                              
|Consolidated Financial Statements:                                            
|                                                                              
|Balance Sheetsas of December 31, 2006 and 2005                                 | F-3       
|                                                                              
|Statements of Operationsfor the years ended December 31, 2006, 2005 and 2004   | F-4       
|                                                                              
|Statement of Shareholders' Equity and Comprehensive Income (Loss)for the years
|ended December 31, 2006, 2005 and 2004                                         | F-5       
|                                                                              
|Statements of Cash Flowsfor the years ended December 31, 2006, 2005 and 2004   | F-6       
|                                                                              
|Notes to the Consolidated Financial Statements                                 | F-8 - F-28



---

---



# REPORT OF INDEPENDENT
REGISTERED PUBLIC ACCOUNTING FIRM

To the Shareholders of
Cimatron Limited

We have audited the accompanying
consolidated balance sheets of Cimatron Limited and subsidiaries (the Company)
as of December 31, 2006 and 2005 and the related consolidated statements of operations,
shareholders equity and comprehensive income (loss) and cash flows for each of the
three years in the period ended December 31, 2006. These consolidated 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. The Company is not
required to have, nor were we engaged to perform, an audit of its 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, as well as evaluating the overall
financial statements presentation. We believe that our audits provide a reasonable basis
for our opinion.

In our opinion, based on our audits
and the reports of the other auditors, the consolidated financial statements referred to
above present fairly, in all material respects, the consolidated financial position of the
Company as of December 31, 2006 and 2005 and the results of its operations and its cash
flows for each of the three years in the period ended December 31, 2006 in conformity with
U.S. generally accepted accounting principles.

Brightman Almagor & Co.
Certified Public Accountants
A member firm of Deloitte Touche TohmatsuTel-Aviv, Israel
June 17, 2007

F - 2

---

---



CIMATRON LIMITED

CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)

|                                                                      | December 31,
|--------------------------------------------------------------------- | ------------
|
|
|
|
|ASSETS                                                                |             
|                                                                      |             
|Current assets                                                        |             
|Cash and cash equivalents                                             |             
|Short-term investments (Note 3)                                       |             
|Trade accounts receivable, net of allowance for doubtful accounts     |             
|of $1,625 and $1,694 as of December 31, 2006 and 2005 respectively    |             
|(Note 4)                                                              |             
|Other accounts receivable and prepaid expenses (Note 5)               |             
|Inventory                                                             |             
|                                                                      |             
|Total current assets                                                  |             
|                                                                      |             
|                                                                      |             
|Long-term investments(Note 3)                                         |             
|                                                                      |             
|                                                                      |             
|Deposits with insurance companies and severance pay funds(Note 9)     |             
|                                                                      |             
|                                                                      |             
|Property and equipment(Note 6)                                        |             
|Cost                                                                  |             
|Less - accumulated depreciation                                       |             
|                                                                      |             
|Property and equipment, net                                           |             
|                                                                      |             
|                                                                      |             
|Other assets                                                          |             
|Software development costs, net (Note 7)                              |             
|Goodwill, net                                                         |             
|                                                                      |             
|Total other assets                                                    |             
|                                                                      |             
|                                                                      |             
|Total assets                                                          |             
|                                                                      |             
|                                                                      |             
|LIABILITIES AND SHAREHOLDERS' EQUITY                                  |             
|                                                                      |             
|Current liabilities                                                   |             
|Short-term bank credit                                                |             
|Related parties                                                       |             
|Trade payables                                                        |             
|Other liabilities and accrued expenses (Note 8)                       |             
|Deferred revenues                                                     |             
|                                                                      |             
|Total current liabilities                                             |             
|                                                                      |             
|                                                                      |             
|Long-term liabilities                                                 |             
|Accrued severance pay (Note 9)                                        |             
|                                                                      |             
|                                                                      |             
|Minority interests                                                    |             
|                                                                      |             
|                                                                      |             
|Contingent liabilities and commitments(Note 10)                       |             
|                                                                      |             
|Shareholders' equity                                                  |             
|Share capital (Note 11):                                              |             
|Ordinary shares of NIS 0.10 par value (Authorized - 19,950,000        |             
|shares, issued and outstanding - 8,001,270 shares                     |             
|at December 31, 2006 and 2005)                                        |             
|Additional paid-in capital                                            |             
|Accumulated other comprehensive loss:                                 |             
|Foreign currency translation adjustments                              |             
|Unrealized loss on available for-sale securities                      |             
|Unrealized gain (loss) on derivative instruments                      |             
|Accumulated deficit                                                   |             
|                                                                      |             
|                                                                      |             
|Treasury stock, at cost; 166,100 shares at December 31, 2006 and 2005 |             
|                                                                      |             
|Total shareholders' equity                                            |             
|                                                                      |             
|                                                                      |             
|Total liabilities and shareholders' equity                            |             
|                                                                      |             

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

F - 3

---

---



CIMATRON LIMITED

CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data)

|                                                                  | Year ended December 31,
|----------------------------------------------------------------- | -----------------------
|
|
|
|
|Revenues (Note 14a):                                              |                        
|Products                                                          |                        
|Services                                                          |                        
|                                                                  |                        
|Total                                                             |                        
|                                                                  |                        
|                                                                  |                        
|Cost of revenues (Note 14b):                                      |                        
|Products                                                          |                        
|Services                                                          |                        
|                                                                  |                        
|Total                                                             |                        
|                                                                  |                        
|                                                                  |                        
|Gross profit                                                      |                        
|                                                                  |                        
|Research and development expenses, net                            |                        
|Selling, general and administrative expenses                      |                        
|(Note 14c)                                                        |                        
|                                                                  |                        
|                                                                  |                        
|Operating income (loss)                                           |                        
|                                                                  |                        
|Financial income (expenses), net                                  |                        
|Other income (expenses)                                           |                        
|                                                                  |                        
|                                                                  |                        
|Income (loss) before income taxes                                 |                        
|                                                                  |                        
|Income taxes (Note 12)                                            |                        
|                                                                  |                        
|                                                                  |                        
|Income (loss) after income taxes                                  |                        
|                                                                  |                        
|Company's equity in results of affiliated company                 |                        
|                                                                  |                        
|Minority interest in results of subsidiary                        |                        
|                                                                  |                        
|                                                                  |                        
|Net Income (loss)                                                 |                        
|                                                                  |                        
|                                                                  |                        
|Net Income (loss) per share (basic and diluted)                   |                        
|                                                                  |                        
|                                                                  |                        
|Weighted average number of shares outstanding (basic and diluted) |                        
|                                                                  |                        

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

F - 4

---

---



CIMATRON LIMITED

STATEMENTS OF SHAREHOLDERS' EQUITY AND COMPREHENSIVE INCOME (LOSS)
(in thousands)

|                                                 | Share
capital | Additional
paid-in
capital | Accumulated
other
comprehensive
income (loss) | Retained
earnings
(accumulated
deficit) | Treasury
stock | Comprehensive
income (loss) | Total
shareholders'
equity
|------------------------------------------------ | ------------- | -------------------------- | --------------------------------------------- | --------------------------------------- | -------------- | --------------------------- | --------------------------
|
|
|
|
|Total comprehensive loss                         |               |                            |                                               |                                         |                |                             |                           
|                                                 |               |                            |                                               |                                         |                |                             |                           
|Balance at January 1, 2004                       |               |                            |                                               | 264                                     |                |                             | 13,417                    
|                                                 |               |                           
|Changes during the year ended December 31, 2004: |               |                           
|Net loss                                         |               |                            |                                               |                                         |                |                             |                           
|Unrealized loss on available-for-sale securities |               |                            |                                               |                                         |                |                             |                           
|Unrealized loss on derivative instruments        |               |                            |                                               |                                         |                |                             |                           
|Foreign currency translation adjustment          |               |                            |                                               |                                         |                |                             |                           
|                                                 |               |                            |                                               |                                         |                |                             |                           
|Total comprehensive loss                         |               |                            |                                               |                                         |                |                             |                           
|                                                 |               |                            |                                               |                                         |                |                             |                           
|Balance at December 31, 2004                     |               |                            |                                               | 264                                     |                |                             | 13,417                    
|                                                 |               |                           
|Changes during the year ended December 31, 2005: |               |                           
|Net loss                                         |               |                            |                                               |                                         |                |                             |                           
|Unrealized gain on available-for-sale securities |               |                            |                                               |                                         |                |                             |                           
|Unrealized loss on derivative instruments        |               |                            |                                               |                                         |                |                             |                           
|Foreign currency translation adjustment          |               |                            |                                               |                                         |                |                             |                           
|                                                 |               |                            |                                               |                                         |                |                             |                           
|Total comprehensive loss                         |               |                            |                                               |                                         |                |                             |                           
|                                                 |               |                            |                                               |                                         |                |                             |                           
|Balance at December 31, 2005                     |               |                            | $                                             | 264                                     |                | $                           | 13,417                    
|                                                 |               |                            |                                               |                                         |                |                             |                           
|                                                 |               |                           
|Changes during the year ended December 31, 2006: |               |                           
|Net Income                                       |               |                            |                                               |                                         |                |                             |                           
|Unrealized loss on available-for-sale securities |               |                            |                                               |                                         |                |                             |                           
|Unrealized gain on derivative instruments        |               |                            |                                               |                                         |                |                             |                           
|Foreign currency translation adjustment          |               |                            |                                               |                                         |                |                             |                           
|Stock option compensation                        |               |                            |                                               |                                         |                |                             | 104                       
|                                                 |               |                            |                                               |                                         |                |                             |                           
|Total comprehensive income                       |               |                            |                                               |                                         |                |                             |                           
|                                                 |               |                            |                                               |                                         |                |                             |                           
|Balance at  December 31, 2006                    |               |                            | $                                             | 264                                     |                | $                           | 13,521                    
|                                                 |               |                            |                                               |                                         |                |                             |                           

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

F - 5

---

---



CIMATRON LIMITED

CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)

|                                                                | Year ended December 31,
|--------------------------------------------------------------- | -----------------------
|
|
|
|
|CASH FLOWS - OPERATING ACTIVITIES                               |                        
|                                                                |                        
|Net Income (loss)                                               |                        
|                                                                |                        
|Adjustments to reconcile net loss to net cash                   |                        
|provided by (used in) operating activities:                     |                        
|Depreciation and amortization                                   |                        
|Increase (decrease) in accrued severance pay                    |                        
|Gain from sale of property and equipment, net                   |                        
|stock options compensation                                      |                        
|Loss (gain) from sale and devaluation (revaluation)             |                        
|of bonds and funds                                              |                        
|Company's equity in results of affiliated company               |                        
|Minority interest in results of subsidiary                      |                        
|                                                                |                        
|Changes in assets and liabilities:                              |                        
|Decrease (increase) in accounts receivable and prepaid expenses |                        
|Decrease (increase) in inventory                                |                        
|Decrease (increase) in deposits with insurance companies        |                        
|and severance pay fund                                          |                        
|Increase in debts to related parties                            |                        
|Increase (decrease) in trade payables, accrued expenses         |                        
|and other liabilities                                           |                        
|                                                                |                        
|Net cash provided by (used in) operating activities             |                        
|                                                                |                        
|                                                                |                        
|CASH FLOWS - INVESTING ACTIVITIES                               |                        
|Investment in bonds                                             |                        
|Proceeds from sale and redemption of bonds                      |                        
|Purchase of property and equipment                              |                        
|Proceeds from sale of property and equipment                    |                        
|Acquisition of  affiliated companies                            |                        
|Capitalization of software development costs                    |                        
|Acquisition of subsidiary, net of cash acquired (Appendix A)    |                        
|                                                                |                        
|Net cash provided by (used in) investing activities             |                        
|                                                                |                        
|                                                                |                        
|CASH FLOWS - FINANCING ACTIVITIES                               |                        
|Short-term bank credit                                          |                        
|                                                                |                        
|Net cash used in financing activities                           |                        
|                                                                |                        
|                                                                |                        
|Effect of exchange rate changes on cash                         |                        
|Net increase (decrease) in cash and cash equivalents            |                        
|Cash and cash equivalents at beginning of year                  |                        
|                                                                |                        
|Cash and cash equivalents at end of year                        |                        
|                                                                |                        
|                                                                |                        
|Supplemental information:                                       |                        
|Cash paid during the year for income taxes                      |                        
|                                                                |                        

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

F - 6

---

---



CIMATRON LIMITED

APPENDIX TO STATEMENTS OF CASH FLOWS
(U.S. dollars in thousands)

|                                                             | Year ended December 31,
|------------------------------------------------------------ | -----------------------
|
|
|
|
|Appendix A - Acquisition of subsidiary, net of cash acquired |                        
|                                                             |                        
|Working capital - excluding cash                             |                        
|Goodwill                                                     |                        
|Property and equipment                                       |                        
|                                                             |                        
|                                                             |                        
|                                                             |                        
|                                                             |                        
|Appendix B - Non-cash transactions                           |                        
|                                                             |                        
|Purchase of property on credit                               |                        
|                                                             |                        

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

F - 7

---

---



CIMATRON LIMITEDNOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except share and per share data)

|NOTE 1 |  | GENERAL
|------ | - | -------

| | Cimatron
Limited (the Company) designs, develops, manufactures, markets and supports a
family of modular CAD/CAM software products which offer integrated
design-through-manufacturing solutions for small to medium-sized companies. The
Companys products have been sold to end-users in numerous industries, including
automotive, aviation and aerospace, household goods, mold and die making, machinery and
tools, and telecommunications. The Company markets its products through distributors and
through its subsidiaries located in different countries.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|NOTE 2 |  | SIGNIFICANT ACCOUNTING POLICIES
|------ | - | -------------------------------

| | The
financial  statements  are prepared in conformity  with U.S.  generally  accepted
 accounting               principles.
| | ---------------------------------------------------------------------------------------------------------------------------

| | A. | Use
of estimates in preparation of financial statements
| | -- | -------------------------------------------------------

| | The
preparation of financial statements in conformity with GAAP requires management to make
estimates and assumptions in determining the reported amounts of assets and liabilities
and disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | B. | Financial
statements in U.S. dollars
| | -- | ------------------------------------

| | The
reporting currency of the Company is the U.S. dollar (dollar).
| | --------------------------------------------------------------------

| | The
dollar is the functional currency of the Company and its subsidiaries in the United
States and Canada. Transactions and balances originally denominated in dollars are
presented at their original amounts. Non-dollar transactions and balances are remeasured
into dollars in accordance with the principles set forth in Statement of Financial
Accounting Standards (SFAS) No. 52 Foreign Currency Translation (SFAS
No. 52). All exchange gains and losses from remeasurement of monetary balance sheet
items resulting from transactions in non-dollar currencies are recorded in the statement
of operations as they arise.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
financial statements of certain subsidiaries whose functional currency is other than the
dollar are translated into dollars in accordance with the principles set forth in SFAS
No. 52. Assets and liabilities have been translated at year-end exchange rates; results
of operations have been translated at average exchange rates. The translation adjustments
have been reported as a separate component of shareholders equity.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | C. | Principles
of consolidation
| | -- | ---------------------------

| | The
consolidated financial statements include the financial statements of the Company and all
of its subsidiaries. All significant intercompany transactions and balances have been
eliminated in consolidation.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | D. | Cash
and cash equivalents
| | -- | -------------------------

| | Cash
equivalents consist of short-term, highly liquid investments that are readily convertible
into cash with original maturities of three months or less.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------

F - 8

---

---



CIMATRON LIMITEDNOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except share and per share data)

|NOTE 2 |  | SIGNIFICANT ACCOUNTING POLICIES (Cont.)
|------ | - | ---------------------------------------

| | E. | Marketable
debt securities
| | -- | --------------------------

| | The
Company accounts for its investments in marketable securities in accordance with SFAS No.
115, Accounting for Certain Investments in Debt and Equity Securities(SFAS
115).
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Management
determines the appropriate classification of the Companys investments in marketable
debt securities at the time of purchase and reevaluates such determinations at each
balance sheet date. Debt securities for which the Company does not have the intent or
ability to hold to maturity are classified as available-for-sale.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | As
of December 31, 2006 and 2005 all marketable debt securities are designated as
available-for-sale and accordingly are stated at fair value, with the unrealized gains
and losses reported in shareholders equity under accumulated other comprehensive
income (loss). Realized gains and losses on sales of investments, as determined on a
specific identification basis, are included in the consolidated statement of operations.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

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

| | The
financial instruments of the Company consist mainly of cash and cash equivalents,
short-term investments, current and non-current accounts receivable, accounts payable and
long-term liabilities. In view of their nature, the fair value of the financial
instruments included in working capital of the Company is usually identical or close to
their carrying amounts.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | G. | Concentrations
on credit risk
| | -- | -----------------------------

| | Financial
instruments which potentially subject the Company to concentration of credit risk consist
principally of cash and cash equivalents, and accounts receivable. The Companys
cash and cash equivalents are invested primarily in deposits with major banks worldwide.
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 customers located primarily in the U.S., Europe, Asia and Israel. The allowance for
doubtful accounts is provided with respect to all balances deemed doubtful of collection.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | H. | Allowance
for doubtful accounts
| | -- | -------------------------------

| | The
allowance for doubtful accounts is computed on the specific identification basis for
accounts, the collection of which, in managements estimation, is doubtful.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | I. | Inventory
| | -- | ---------

| | Inventory
is presented at the lower of cost or market. Cost is determined by the first in,
first out method.
| | --------------------------------------------------------------------------------------------------------------

| | J. | Property
and equipment
| | -- | ----------------------

| | Property
and equipment are stated at cost. Depreciation is computed using the straight-line method,
over the estimated useful life of assets, as follows:
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------

| |                                |                  | 
| | ------------------------------ | ---------------- | 
|
|
|
|
| | Computers and software         | 3 years          | 
| | Office furniture and equipment | 6.5 - 16.5 years | 

| | Leasehold
improvements are amortized over the shorter of the life of the respective lease or the
service life of the improvements.
| | ----------------------------------------------------------------------------------------------------------------------------------

F - 9

---

---



CIMATRON LIMITEDNOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except share and per share data)

|NOTE 2 |  | SIGNIFICANT ACCOUNTING POLICIES (Cont.)
|------ | - | ---------------------------------------

| | K. | Impairment
of long-lived assets
| | -- | -------------------------------

| | The
Company regularly reviews whether facts and circumstances exist which indicate that the
carrying amount of assets may not be recoverable. The Company assesses the recoverability
of the carrying amount of its long-lived assets based on expected undiscounted cash
flows. If an assets carrying amount is determined to be not recoverable, the
Company recognizes an impairment loss based upon the difference between the carrying
amount and the fair value of such assets, in accordance with SFAS No. 144 Accounting
for the Impairment or Disposal of Long-Lived Assets (SFAS No. 144).
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | L. | Software
development cost
| | -- | -------------------------

| | The
Company capitalized certain software development costs in accordance with SFAS No. 86
Accounting for Costs of Computer Software to be Sold, Leased or Otherwise Marketed.
Capitalization of software development costs begins upon the establishment of
technological feasibility and continues up to the time the software is available for
general release to customers, at which time capitalized software costs are amortized to
product development expenses on the straight-line basis over the expected
life of the related product which is greater than the ratio that current gross revenues
for a product bear to the total of current and anticipated future gross revenues,
generally five years.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Management
believes that future revenues related to capitalized software development costs s will be
sufficient to realize the amounts capitalized at December 31, 2006 and, as such, these
amounts will be recovered over the lives of the related projects. The estimates of
anticipated future revenues and remaining useful life of the Companys products are
subject to risk inherent in the software industry, such as changes in technology and
customer perceptions.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | M. | Acquisition-related
intangible assets
| | -- | -------------------------------------

| | The
Company accounts for its business combinations in accordance with SFAS No. 141 Business
Combinations (SFAS 141) and the related acquired intangible assets and
goodwill in accordance with SFAS No. 142 Goodwill and Other Intangible Assets (SFAS
142). SFAS 141 specifies the accounting for business combinations and the criteria
for recognizing and reporting intangible assets apart from goodwill.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Acquisition-related
intangible assets result from the Companys acquisitions of businesses accounted for
under the purchase method and consist of the values of identifiable intangible assets
including developed software products, established workforce and trade names, as well as
goodwill. Goodwill is the amount by which the acquisition cost exceeds the fair values of
identifiable acquired net assets on the date of purchase. Acquisition-related intangible
assets are reported at cost, net of accumulated amortization.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 10

---

---



CIMATRON LIMITEDNOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except share and per share data)

|NOTE 2 |  | SIGNIFICANT ACCOUNTING POLICIES (Cont.)
|------ | - | ---------------------------------------

| | N. | Stock-based
compensation
| | -- | ------------------------

| | Effective
January 1, 2006, the Company adopted the provisions of SFAS No. 123 (revised 2004), Share-Based
Payment (SFAS No. 123(R)). SFAS No. 123(R) requires employee share-based equity
awards to be accounted for under the fair value method. Accordingly, stock-based
compensation is measured at the grant date, based on the fair value of the award. Prior
to January 1, 2006, the Company accounted for stock-based equity awards granted using the
intrinsic value method prescribed by Accounting Principles Board (APB) Opinion No. 25,
Accounting for Stock Issued to Employees (APB No. 25), and related
interpretations, and provided the required pro forma disclosures prescribed by SFAS No.
123, Accounting for Stock-Based Compensation (SFAS No. 123), as amended. The
exercise price of options is equal to the Company share market price on the date of grant.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Under
the modified prospective method of adoption for SFAS No. 123(R), the compensation cost
recognized by the Company beginning in 2006 includes (a) compensation cost for all equity
incentive awards granted prior to, but not yet vested as of January 1, 2006, based on the
grant-date fair value estimated in accordance with the original provisions of SFAS No.
123, and (b) compensation cost for all stock-based compensations granted subsequent to
January 1, 2006, based on the grant-date fair value estimated in accordance with the
provisions of SFAS No. 123(R). The Company uses the straight-line attribution method to
recognize stock-based compensation costs over the service period of the award.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Stock-based
compensation recognized in 2006 as a result of the adoption of SFAS No. 123(R), as well
as pro forma disclosures according to the original provisions of SFAS No. 123 for periods
prior to the adoption of SFAS No. 123(R), use the Black-Scholes option pricing model for
estimating the fair value of options granted under the Companys equity plans. The
weighted average assumptions that were used in calculating such values during 2006, 2005,
and 2004, were based on estimates at the date of grant as follows:
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |                          | 2 0 0 6   | 2 0 0 5 | 2 0 0 4 (*)
| | ------------------------ | --------- | ------- | -----------
|
|
|
|
| | Risk-free interest rate  | 5.41%     | 3.3%    | -          
| | Expected life of options | 3.25 year | 4 year  | -          
| | Expected volatility      | 67%       | 96%     | -          
| | Expected dividend yield  | None      | None    | -          

| | (*)
          No options were granted during 2004.
| | --------------------------------------------------

F - 11

---

---



CIMATRON LIMITEDNOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except share and per share data)

|NOTE 2 |  | SIGNIFICANT ACCOUNTING POLICIES (Cont.)
|------ | - | ---------------------------------------

| | N. | Stock-based
compensation (Cont.)
| | -- | --------------------------------

| | Pro
forma information required under SFAS No. 123(R) for periods prior to fiscal year 2006,
as if the Company had applied the fair value recognition provisions of SFAS No. 123 to
options granted is as follows:
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |                                                            | 2 0 0 5 | 2 0 0 4
| | ---------------------------------------------------------- | ------- | -------
|
|
|
|
| | Pro forma net income:                                      |         |        
| | Net income for the year, as reported                       |         |        
| | Deduct - stock-based compensation determined under APB-25  |         |        
| | Add  - stock-based compensation determined under  SFAS 123 |         |        
| |                                                            |         |        
| | Pro forma net income                                       |         |        
| |                                                            |         |        
| |                                                            |         |        
| | Pro forma basic earnings per share                         |         |        
| |                                                            |         |        
| |                                                            |         |        
| | Basic earnings per share as reported                       |         |        
| |                                                            |         |        
| |                                                            |         |        
| | Pro forma diluted earnings per share                       |         |        
| |                                                            |         |        
| |                                                            |         |        
| | Diluted earnings per share as reported                     |         |        
| |                                                            |         |        

| | O. | Revenue
recognition
| | -- | -------------------

| | The
Company recognizes revenues in accordance with the American Institute of Certified Public
Accountants (AICPA) Statement of Position 97-2, Software Revenue
Recognition, as amended.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Revenues
from software license fees are recognized when persuasive evidence of an arrangement
exists, the software product covered by written agreement or a purchase order signed by
the customer has been delivered, the license fees are fixed and determinable and
collection of the license fees is considered probable. When software arrangements involve
multiple elements the Company allocates revenue to each element based on the relative
fair values of the elements. The Companys determination of fair value of each
element in multiple element arrangements is based on vendor-specific objective evidence (VSOE).
The Company limits its assessment of VSOE for each element to the price charged when the
same element is sold separately.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Service
revenues include consulting services, post-contract customer support and training.
Consulting revenues are generally recognized on a time and material basis. Software
maintenance agreements provide technical customer support and the right to unspecified
upgrades on an if-and-when-available basis. Post-contract customer support revenues are
recognized ratably over the term of the support period (generally one year) and training
and other service revenues are recognized as the related services are provided. Deferred
revenues represent mainly amounts received on account of service agreements.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 12

---

---



CIMATRON LIMITEDNOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except share and per share data)

|NOTE 2 |  | SIGNIFICANT ACCOUNTING POLICIES (Cont.)
|------ | - | ---------------------------------------

| | O. | Revenue
recognition (Cont.)
| | -- | ---------------------------

| | The
Company has no significant expenditures relating to either warranties or post-contract
customer support bundled with the initial sale of the software license and, therefore,
other than a provision of approximately $64,000, no provision in respect of warranties or
post-contract customer support is included in our financial statements.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
Companys sales are made pursuant to standard purchase orders, containing payment
terms averaging between 30  120 days. For some customers with whom the Company has
long-standing relationships and based on past experience with those customers and the
same software products, the Company may grant payment terms of not over 180 days. Any
payment terms that are above 90-120 days must be approved by the Companys Chief
Financial Officer, prior to signing any purchase order.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
Companys arrangements do not include any refund provisions nor are payments subject
to milestones. In addition, the Companys arrangements do not contain customer
acceptance provisions.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | P. | Research
and development costs
| | -- | ------------------------------

| | Research
and development costs are expensed as incurred.
| | --------------------------------------------------------

| | Q. | Advertising
costs
| | -- | -----------------

| | Advertising
costs are charged to expenses, as incurred.
| | -------------------------------------------------------

| | R. | Deferred
income taxes
| | -- | ---------------------

| | Deferred
income taxes are provided for temporary differences between the assets and liabilities,
as measured in the financial statements and for tax purposes, at the tax rates expected
to be in effect when these differences reverse, in accordance with SFAS No. 109 Accounting
for Income Taxes (SFAS No. 109).
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | S. | Net
income (loss) per ordinary share
| | -- | ------------------------------------

| | Basic
and diluted net income (loss) per share have been computed in accordance with SFAS No.
128 Earning per Share using the weighted average number of ordinary shares
outstanding. Basic income (loss) per share excludes any dilutive effect of options and
warrants. A total 12,000 incremental shares were excluded from the calculation of diluted
net income (loss) per ordinary share for 2004, due to the anti-dilutive effect.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 13

---

---



CIMATRON LIMITEDNOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except share and per share data)

|NOTE 2 |  | SIGNIFICANT ACCOUNTING POLICIES (Cont.)
|------ | - | ---------------------------------------

| | T. | Derivative
financial instruments
| | -- | --------------------------------

| | The
Companys primary objective for holding derivative financial instruments is to
manage mainly currency market risks. The Company transacts business in various currencies
other than the U.S. dollar, primarily the Euro and NIS. The Company has established
balance sheet and forecasted transaction risk management programs to protect against
volatility of future cash flows caused by changes in exchange rates. It uses currency
forward contracts and currency options in these risk management programs. These programs
reduce, but do not always entirely eliminate, the impact of currency exchange movements.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | In
accordance with SFAS No. 133, Accounting for Derivative Instruments and Hedging
Activities, as amended, the Company recognizes all derivative instruments as either
assets or liabilities on the balance sheet at fair value. Fair values of currency forward
contracts and currency options are based on quoted market prices or pricing models using
current market rates. The accounting for gains or losses from changes in fair value of a
derivative instrument depends on whether it has been designated and qualifies as part of
a hedging relationship as well as on the type of hedging relationship.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
Companys accounting policies for these instruments are based on whether they meet
the criteria for designation as hedging transactions, either as cash flow or fair value
hedges. The criteria for designating a derivative as a hedge include the instruments
effectiveness in risk reduction and one-to-one matching for the derivative instrument to
its underlying transaction. Gains and losses on derivatives that are not designated as
hedges for accounting purposes are recognized currently in earnings, and generally offset
changes in the value of assets and liabilities.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
Companys outstanding derivative instruments as of balance sheet date are included
in other receivables and other accrued liabilities.
| | ------------------------------------------------------------------------------------------------------------------------------------------

| | Currency
forward contracts and currency options, which generally expire within 12 months and are
used to hedge exposures to variability in expected future foreign-denominated cash flows,
are designated as cash flows hedges. For these derivatives, the effective portion of the
gain or loss is reported as a component of other comprehensive income in stockholders equity
and is reclassified into earnings in the same period or periods during which the hedged
transaction affects earnings, and within the same income statement line item.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
ineffective portion of the gain or loss on the derivative in excess of the cumulative
change in the present or future cash flows of the hedged item, if any, is recognized in
financial income (expenses) net during the period of change.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
carrying amount of foreign currency forward contracts and foreign currency options
outstanding at December 31, 2006 and 2005 is $131 and $154, respectively. As of the
balance sheet dates, the fair value of these contracts approximates their carrying amount.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 14

---

---



CIMATRON LIMITEDNOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except share and per share data)

|NOTE 2 |  | SIGNIFICANT ACCOUNTING POLICIES (Cont.)
|------ | - | ---------------------------------------

| | U. | Recently
issued accounting pronouncements
| | -- | -----------------------------------------

| | FASB
Interpretation No. 48, Accounting for Uncertainty in Income Taxes  an
Interpretation of FASB Statement No. 109  In June 2006, the FASB issued
FASB Interpretation No. 48 (FIN-48), Accounting for Uncertainty in
Income Taxes  an Interpretation of FASB Statement No. 109. The
interpretation clarifies the accounting for uncertainty in income taxes recognized in an
entitys financial statements in accordance with SFAS No. 109, Accounting
for Income Taxes. Specifically, FIN-48 prescribes a recognition threshold and a
measurement attribute for the financial statement recognition and measurement of a tax
position taken or expected to be taken.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
provisions of FIN-48 are effective for financial statements for fiscal years beginning
after December 15, 2006. Accordingly, the Company is to adopt FIN-48 on January 1, 2007.
The adoption of FIN-48 is not expected to have a material effect on the Companys
financial position or results of operations.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | SFAS
No. 157, Fair Value Measurements  In September 2006, the FASB
issued SFAS No. 157, Fair Value Measurements (SFAS 157), which
defines fair value, establishes a framework for measuring fair value and expands
disclosures about fair value measurements. SFAS 157 applies whenever other accounting
standards require or permit assets or liabilities to be measured at fair value.
Accordingly, it does not expand the use of fair value in any new circumstances. Fair
value under SFAS 157 is defined as the price that would be received to sell an asset or
paid to transfer a liability in an orderly transaction between market participants at the
measurement date. This Standard clarifies the principle that fair value should be based
on the assumptions market participants would use when pricing an asset or liability. In
support of this principle, SFAS 157 establishes a fair value hierarchy that prioritizes
the information used to develop those assumptions. The fair value hierarchy gives the
highest priority to quoted prices in active markets and the lowest priority to
unobservable data, for example, a reporting entitys own data. Under SFAS 157, fair
value measurements would be separately disclosed by level within the fair value
hierarchy. SFAS 157 is effective for fiscal years beginning after November 15, 2006.
Accordingly, the Company is to adopt SFAS 157 on January 1, 2007. The adoption of SFAS
157 is not expected to have a material effect on the Companys financial position or
results of operations.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | In
February 2007, the FASB issued SFAS No. 159, The Fair Value Option for
Financial Assets and Financial Liabilities (SFAS No. 159). SFAS No. 159
permits companies to choose to measure certain financial instruments and certain other
items at fair value. The standard requires that unrealized gains and losses on items for
which the fair value option has been elected be reported in earnings. SFAS No. 159
is effective for the Company beginning in the first quarter of fiscal year 2008, although
earlier adoption is permitted. The company is currently evaluating the impact that SFAS
No. 159 will have on its consolidated financial statements.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 15

---

---



CIMATRON LIMITEDNOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except share and per share data)

|NOTE 3 |  | SHORT-TERM AND LONG-TERM INVESTMENTS
|------ | - | ------------------------------------

| | A. | Short-term
investments
| | -- | ----------------------

| |                                         | December 31,
| | --------------------------------------- | ------------
|
|
|
|
| |                                         |             
| | Comprised as follows:                   |             
| |                                         |             
| | Marketable securities - Corporate bonds |             
| |                                         |             

| | B. | Long-term
investments
| | -- | ---------------------

| |                                             | December 31,
| | ------------------------------------------- | ------------
|
|
| |                                             |             
| | Comprised as follows:                       |             
| |                                             |             
| | Marketable securities - Corporate bonds (1) |             
| |                                             |             
| | Investment in affiliated companies:         |             
| | Microsystem Srl (2)                         |             
| | Other                                       |             
| |                                             |             
| |                                             |             
| |                                             |             
| |                                             |             
| |                                             |             

| | (1) | Comprised
of structured bonds, which are debt instruments whose cash flows are
               linked to the movement in interest rates. The structured notes were issued
by                financial institutions. The notes typically contain embedded option
components                such as caps, calls, and floors. Contractual cash flows for
principal from such                structured notes can vary in timing throughout the
life of the structured notes.                Interest income resulting from investment in
structured notes is accounted for                based on the guidance provided in EITF
No. 96-12, Recognition of Interest                Income and Balance Sheet
Classification of Structured Notes. Under this                guidance the
retrospective method is used for recognizing interest income.
| | --- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | (2) | In
June 2005, the Company completed the acquisition of 27.5% of the share
               capital of Microsystem Srl, its Italian distributor, for a consideration
of                $694. The Company had an option (First Call Option) to acquire up to
additional                23.5% of Microsystems share capital until June 30, 2007,
for an additional                consideration of approximately $600. In May 2007 the
Companys board of                directors approved the exercise of this option.
Upon exercise of the First Call                Option the Company will have a second
option, at any time within a thirty days                period (Second Exercise Period)
starting at the expiration of twelve months from                the exercise of the First
Call Option to acquire up to the remaining 49% of                Microsystems share
capital, for an additional consideration of                approximately $1,250. In
addition, once the Company exercises the First Call                Option, the then
remaining other shareholders of Microsystem will have an option                to sell to
the Company at any time during the Second Exercise Period 49% of
               Microsystems share capital, for a consideration of approximately
$1,250.
| | --- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 16

---

---



CIMATRON LIMITEDNOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except share and per share data)

|NOTE 3 |  | SHORT-TERM AND LONG-TERM INVESTMENTS (Cont.)
|------ | - | --------------------------------------------

| | B. | Long-term
investments (Cont.)
| | -- | -----------------------------

| | The
Company's investment consisting of:
| | ---------------------------------------

| |                                   | December 31,
| | --------------------------------- | ------------
|
|
|
|
| | Cost (including related expenses) |             
| | Equity in earnings (losses)       |             
| |                                   |             
| | Translation adjustments           |             
| |                                   |             
| |                                   |             
| |                                   |             

| | Aggregate
maturities of marketable securities are as follows:
| | -------------------------------------------------------------

| |              | December 31,
| | ------------ | ------------
|
|
|
|
| | Seven years  |             
| | Twelve years |             
| |              |             
| |              |             
| |              |             

| | C. | As
of December 31, 2006 and 2005 all the investments in marketable securities           are
classified in accordance with SFAS No. 115 as available-for-sale. Unrealized
          loss on available-for-sale securities of $ 7 and $64 at December 31, 2006 and
          2005, respectively, were recorded in other comprehensive loss.
| | -- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|NOTE 4 |  | TRADE ACCOUNTS RECEIVABLE
|------ | - | -------------------------

| |                                        | December 31,
| | -------------------------------------- | ------------
|
|
|
|
| | Accounts receivable                    |             
| | Less - allowance for doubtful accounts |             
| |                                        |             
| |                                        |             
| |                                        |             

|NOTE 5 |  | OTHER ACCOUNTS RECEIVABLE AND PREPAID EXPENSES
|------ | - | ----------------------------------------------

| |                        | December 31,
| | ---------------------- | ------------
|
|
|
|
| | Prepaid expenses       |             
| | Derivative instruments |             
| | Interest receivable    |             
| | Other                  |             
| |                        |             
| |                        |             
| |                        |             

F - 17

---

---



CIMATRON LIMITEDNOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except share and per share data)

|NOTE 6 |  | PROPERTY AND EQUIPMENT
|------ | - | ----------------------

| |                                | December 31,
| | ------------------------------ | ------------
|
|
|
|
| | Cost:                          |             
| | Computers and software         |             
| | Office furniture and equipment |             
| | Leasehold improvements         |             
| |                                |             
| |                                |             
| |                                |             
| | Accumulated depreciation:      |             
| | Computers and software         |             
| | Office furniture and equipment |             
| | Leasehold improvements         |             
| |                                |             
| |                                |             
| |                                |             
| |                                |             
| | Property and equipment, net    |             
| |                                |             

|NOTE 7 |  | SOFTWARE DEVELOPMENT COSTS, NET
|------ | - | -------------------------------

| |                                        | December 31,
| | -------------------------------------- | ------------
|
|
|
|
| | Capitalized software development costs |             
| | Accumulated amortization               |             
| |                                        |             
| |                                        |             
| |                                        |             

| | The
Company released its newest version of Cimatron E (Version 7.0) (Cimatron E7)
in August 2005. Cimatron E7 was developed on the basis of advanced technology and
infrastructure that replaced the infrastructure of the older versions, and includes new
elements that did not exist in older versions.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | During
the fourth quarter of 2005 the Company evaluated its capitalized software costs and wrote
off all the net balance of capitalized costs related to its older products in the amount
of $803, and capitalized $193 of costs related to the development of Cimatron E7.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|NOTE 8 |  | ACCRUED EXPENSES AND OTHER LIABILITIES
|------ | - | --------------------------------------

| |                                   | December 31,
| | --------------------------------- | ------------
|
|
|
|
| | Employees and related liabilities |             
| | Derivative instruments            |             
| | Accrued expenses                  |             
| | Accrued royalties                 |             
| | Taxes to government institutions  |             
| | Others                            |             
| |                                   |             
| |                                   |             
| |                                   |             

F - 18

---

---



CIMATRON LIMITEDNOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except share and per share data)

|NOTE 9 |  | ACCRUED SEVERANCE PAY (DEPOSITS WITH INSURANCE COMPANIES AND SEVERANCE
PAY FUNDS)
|------ | - | ---------------------------------------------------------------------------------

| | The
Companys liability for severance pay is calculated pursuant to Israeli severance
pay law based on the most recent salary of the employee 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 employees is funded by monthly deposits with
severance pay funds and insurance policies. An accrual is set up for any unfunded amount.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
deposited funds 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 surrender value of the policies.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|NOTE 10 |  | CONTINGENT LIABILITIES AND COMMITMENTS
|------- | - | --------------------------------------

| | A. | In
consideration of grants by the Chief Scientist of the Ministry of Industry           and
Trade of the Government of Israel (the Chief Scientist), the
          Company is obligated to pay the Chief Scientist, in respect of awarded grants,
          royalties of 3.5% of sales of products developed with funds provided by the
          Chief Scientist, until the dollar-linked amount is equal 100% of the grants
          payments received by the Company plus Libor interest rate (the Libor interest
          rate applies to grants received since January 1999). The Companys
          contingent liability as of December 31, 2006 is approximately $2,194 contingent
          upon the Company generating revenues from sales of products developed with
funds           provided by the Chief Scientist.
| | -- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | B. | Regarding
commitments in respect of the Approved Enterprise, see           Note 13a.
| | -- | --------------------------------------------------------------------------------------

| | C. | In consideration of grants received from the Fund for the Encouragement of
          Overseas Marketing of the Israeli Governments Ministry of Industry and
          Trade (the Fund), the Company is obligated to pay the Fund
royalties           amounting to 3% to 4% of the incremental exports, up to a maximum of
100% of the           grants received.
| | -- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
Companys contingent liability as of December 31, 2006 is $558, contingent upon the
Companys incremental exports.
| | ----------------------------------------------------------------------------------------------------------------------

| | D. | The
Company uses technology in respect of which it is obligated to pay royalties           up
to an amount of $1,220, until 2009.
| | -- | ---------------------------------------------------------------------------------------------------------------------------------

F - 19

---

---



CIMATRON LIMITEDNOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except share and per share data)

|NOTE 10 |  | CONTINGENT LIABILITIES AND COMMITMENTS (Cont.)
|------- | - | ----------------------------------------------

| | E. | Lease
commitments
| | -- | -----------------

| | The
premises of the Company and its subsidiaries are leased under various operating lease
agreements, which expire on various dates.
| | ------------------------------------------------------------------------------------------------------------------------------------

| | Rent
expenses for the years ended December 31, 2006, 2005 and 2004, were approximately $705,
$627 and $661, respectively.
| | -------------------------------------------------------------------------------------------------------------------------

| | The
Company leases its motor vehicles under cancelable operating lease agreements for periods
through 2007.
| | -----------------------------------------------------------------------------------------------------------

| | The
minimum payment under these operating leases, upon cancellation of these lease
agreements, amounted to $412 as of December 31, 2006.
| | ----------------------------------------------------------------------------------------------------------------------------------------

| | Future
minimum lease commitments under operating leases as of December 31, 2006 are as follows:
| | -----------------------------------------------------------------------------------------------

| |                         | 
| | ----------------------- | 
|
|
|
|
| | Year ended December 31, | 
| | 2007                    | 
| | 2008                    | 
| | 2009                    | 
| | 2010                    | 
| | 2011 and thereafter     | 
| |                         | 
| |                         | 
| |                         | 

| | F. | Legal
claims
| | -- | ------------

| | In
April 2004, Omega  Adem Technologies Ltd., an Israeli privately held company
engaged in the development of software, filed a lawsuit against Cimatron, claiming that
Cimatron caused four employees of the plaintiff located in Russia to terminate their
employment with the plaintiff and join Cimatron. During a period of two years (until
March 2003), the plaintiff provided certain services to Cimatron. The four employees were
among several employees who provided such services to Cimatron. The plaintiff claimed,
among other things, that the four employees are restricted from working for any
competitor of the plaintiff for a period of three years following termination of their
employment with the plaintiff. The plaintiff requested the District Court in Tel Aviv,
Israel to grant an injunction and a permanent order that would prevent Cimatron from
hiring the four employees. In June, 2005, the court rejected the plaintiffs request
for an injunction. However, in September 2005, Omega initiated arbitration proceedings
against the Company pursuant to the services agreement between the parties and submitted
to an arbitrator agreed upon between the parties a statement of claim for an amount of
$20,000,000 caused to Omega due to the employment of the four employees in question. In
November 2005, the Company submitted a statement of defense denying all of Omegas
claims and asserting, among other things, that it engaged the Employees through Manpower
Russia only following the expiration of a year following the conclusion of their
relationship with Omega and that it therefore was allowed to do so. As of December 31,
2006 this proceeding was at its final stages. Cimatron believes that there is no merit to
the claim and has continuously vigorously opposed it, but has nevertheless accrued in the
fourth quarter of 2005 a sum of $250,000 for this claim.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 20

---

---



CIMATRON LIMITEDNOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except share and per share data)

|NOTE 10 |  | CONTINGENT LIABILITIES AND COMMITMENTS (Cont.)
|------- | - | ----------------------------------------------

| | F. | Legal
claims (Cont.)
| | -- | --------------------

| | On May 9, 2007, Collins & Aikman
Corporation, on behalf of themselves and certain related parties filed a complaint with
the United States Bankruptcy court of Michigan, Detroit, against our wholly owned
subsidiary, Cimatron Technologies, Inc. On May 17, 2005 the plaintiffs filed a voluntary
petition for relief under Chapter 11 of the Bankruptcy Code. The plaintiffs are demanding
repayment of an amount of $318,515 plus interest and expenses on the basis of, among
others, that such payment was made within ninety days preceding the petition date. The
payment to the subsidiary was mainly made in consideration for software delivered to the
plaintiff, and to a negligible extent, for services and maintenance provided to the
plaintiff. The subsidiary has engaged local counsel and intends to vigorously oppose such
claim.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|NOTE 11 |  | SHAREHOLDERS EQUITY
|------- | - | --------------------

| | A. | Share
issuance
| | -- | --------------

| | The
Companys shares are traded in the United States and are listed on the Nasdaq
Capital Market.
| | -------------------------------------------------------------------------------------------------

| | B. | Share
Option Plan
| | -- | -----------------

| | In
April 1998, the Board of Directors adopted a share option plan (the 1998 Share
Option Plan) pursuant to which 620,000 Ordinary Shares were reserved for issuance
upon the exercise of options to be granted to Directors, officers, employees and
consultants of the Company. The 1998 Share Option Plan is administrated by the Board,
which designates the optionees and dates of grant. The exercise price of an option
granted under the 1998 Share Option Plan may be no less than 85% of the fair market value
of an Ordinary Share, as determined by the board on the date that the option is granted.
Options granted vest over a period determined by the option committee, terminate three
years after they become exercisable, and are non-assignable except by the laws of
descent. The board has the authority to amend the terms of option grants, provided that
any such amendment is in the best interest of the grantee.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | As
of December 31, 2006, none of these options were outstanding. These options are
exercisable commencing two years after the date of grant at a rate of 25% per year,
subject to the continued employment of each employee. The grantee will be responsible for
all personal tax consequences of the grant and the exercise thereof.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | In
March 2000, the board adopted new guidelines for the options to purchase Ordinary Shares
reserved for issuance under the 1998 Share Option Plan upon the exercise of options to be
granted to Directors, officers, employees and consultants of the Company. Such options
are exercisable commencing two years after the date of grant at a rate of 50% on the
second anniversary of the date of grant and 25% in each of the following two years,
subject to the continued employment of each employee. As of December 31, 2005, options to
purchase 18,750 of such shares were outstanding at a price of $4.50 per share.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | In
August 2003 the Companys Board of Directors approved the grant of options to
purchase 150,000 of the Companys shares at a price of $2.50 per share to two
officers in the Company. These options are exercisable commencing one year after the date
of grant at a rate of 25%-33.3% per year, subject to the continued employment of the
officers. 50,000 of such options were outstanding at December 31, 2006.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 21

---

---



CIMATRON LIMITEDNOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except share and per share data)

|NOTE 11 |  | SHAREHOLDERS EQUITY (Cont.)
|------- | - | ----------------------------

| | B. | Share
Option Plan (Cont.)
| | -- | -------------------------

| | In
October 2004, the Board of Directors adopted an additional share option plan (the 2004
Share Option Plan) pursuant to which 240,000 Ordinary Shares were reserved for
issuance upon the exercise of options to be granted to directors, officers, employees and
consultants of the Company. The exercise price of an option granted under the Share
Option Plan may be no less than 95% of the fair market value of an Ordinary Share, as
determined by the board on the date that the option is granted. The options may be
exercised over a 10-year term unless determined
otherwise by the Board. The grantees will be responsible for all personal tax consequences
of the grant and the exercise thereof. In February 2005, 238,500 of such options were
granted to employees of the Company at an exercise price of $2.20 per share, and in August
2005, the board of directors approved the grant of 32,000 of such options at an exercise
price of $2.00 per share to the Companys Chief Executive Officer. 214,500 of such
options were outstanding at December 31, 2005. In December 2005 our Board of Directors
increased the 2004 Share Option Plan reserve by an additional 250,000 shares. The Company
intends to grant additional options under the 2004 Share Option Plan to various directors,
executive officers and employees of the Company. In May 2006 an additional 189,000 options
were granted to Company employees under the 2004 Share Option Plan at an exercise price of
$1.75-$2.00 and with a term of five years. As of December 31, 2006, 403,500 of such
options were outstanding.These options are exercisable pursuant to a
three (3) year vesting schedule as follows: (i) thirty three percent (33%) of the shares
covered by the options become exercisable on the first anniversary of the grant date; and
(ii) sixteen and one-half percent (16.5%) of the shares covered by the options become
exercisable at the end of each subsequent six months period over the course of the
following two (2) years, subject to the continued employment of each employee. The Company
intends to grant additional options under the 2004 Share Option Plan to various of our
directors, executive officers and employees.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | At
December 31, 2006 options to purchase 686,250 of Company shares were available for grants
to Directors, officers, employees and consultants of the Company.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
grantee will be responsible for all personal tax consequences of the grant and the
exercise thereof. The Company intends to grant additional options to various Directors,
executive officers and employees of the Company.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | A
summary of the status of the Companys stock option plan as of December 31, 2006,
2005 and 2004, and changes during the years ending on those dates, is presented below:
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|                            | Year ended December 31,
|--------------------------- | -----------------------
|
|
|
|
|Outstanding at beginning    |                        
|of year                     |                        
|Granted                     |                        
|Cancelled                   |                        
|                            |                        
|Outstanding at year end     |                        
|                            |                        
|Options exercisable at      |                        
|year end                    |                        
|                            |                        
|Weighted average fair value |                        
|of options granted during   |                        
|the year                    |                        
|                            |                        

F - 22

---

---



CIMATRON LIMITEDNOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except share and per share data)

|NOTE 11 |  | SHAREHOLDERS EQUITY (Cont.)
|------- | - | ----------------------------

| | B. | Share
Option Plan (Cont.)
| | -- | -------------------------

| | The
following table summarizes information about stock options outstanding at December 31,
2006:
| | ------------------------------------------------------------------------------------------------

|               | Options outstanding | Option exercisable
|-------------- | ------------------- | ------------------
|
|
|
|
|$1.75 to $3.00 |                     |                   
|$4.01 to $5.00 |                     |                   
|               |                     |                   
|               |                     |                   
|               |                     |                   

|NOTE 12 |  | INCOME TAXES
|------- | - | ------------

| | A. | The
Law for Encouragement of Capital Investments, 1959 (hereafter: the           law)
| | -- | ---------------------------------------------------------------------------------------

| | Since
1994, the Companys operations have approved enterprise status under the
law. Reduced tax rates apply to the Companys income from the approved enterprise
(which is determined in accordance with the increase in the Companys revenue during
the first year of its having the abovementioned status as compared to the year before).
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | In
April 2001 the Company was granted an approved enterprise status, subject to
the following terms:
| | ------------------------------------------------------------------------------------------------------

| | Tax
exemption for 2 years, commencing in the first year the Company generates taxable income.
For the remainder of the benefit period  5 years  a reduced tax rate of 25%.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
period of tax benefits for this approved enterprise will expire in 2015 or earlier,
depending on whether the Company generates taxable income from this approved enterprise.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Income
derived from sources other than approved enterprise is taxable at the
ordinary corporate tax rate of 34% in 2006 (regular Company Tax). The regular
Company Tax rate is to be gradually reduced to 25% until 2010 (31% in 2006, 29% in 2007,
27% in 2008 and 26% in 2009).
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | In
the event of a distribution of cash dividends to shareholders of earnings subject to the
exemption, the Company will be liable to tax at a rate of 25%. The Company has not
provided deferred taxes on future distributions of tax-exempt earnings, as management and
the Board of Directors have determined not to make any distribution that may result in a
tax liability for the Company. Accordingly, such earnings have been considered to be
permanently reinvested. The tax-exempt earnings may be distributed to shareholders
without subjecting the Company to taxes only upon a complete liquidation of the Company.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
tax benefits and grants described above are subject to fulfillment of the conditions
stipulated by the Law for Encouragement of Capital Investments, 1959, as amended, the
regulations promulgated thereunder and the criteria set forth in the certificate of
approval. The entitlement to the benefits is subject to completion and final approval by
the Investment Center, such approval being subject to fulfillment of all terms of the
approved program. In the event of failure by an enterprise to comply with these
conditions, the tax benefits could be cancelled, in whole or in part, and the enterprise
would be required to refund the amount of cancelled benefits, including interest. The
completion of the Companys first, second and third approved enterprises has
received final approval by the Investment Center.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 23

---

---



CIMATRON LIMITEDNOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except share and per share data)

|NOTE 12 |  | INCOME TAXES (Cont.)
|------- | - | --------------------

| | On
April 1, 2005, a significant amendment to the Law for Encouragement of Capital
Investments, 1959 (the Investment Law) became effective. The Investment Law
provides that terms and benefits included in any certificate of approval that was granted
before the amendment came into effect will remain subject to the provisions of the
Investment Law as they were on the date of such approval. Pursuant to the amendment, the
Investment Center will continue to grant Approved Enterprise status to qualifying
investments. The amendment, however, limits the scope of enterprises that may be approved
by the Investment Center by setting criteria for the approval of a facility as an
Approved Enterprise, such as provisions generally requiring that at least 25% of the
Approved Enterprises income will be derived from export.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | In
February 2007 the Company received a letter from the investment center stating that its
approved enterprise from April 2001 is about to be terminated if the Company does not
submit a final performance report. The Company has decided not to pursue the completion
of this investment plan, as it has not had any tax benefits from it, and it intends to
apply for tax benefits pursuant the amended law as described above, if and when relevant
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | B. | Comprised
as follows:
| | -- | ---------------------

| |                                       | Year ended December 31,
| | ------------------------------------- | -----------------------
|
|
|
|
| | Income (loss) before taxes on income: |                        
| | Domestic                              |                        
| | Foreign                               |                        
| |                                       |                        
| |                                       |                        
| |                                       |                        
| |                                       |                        
| | Current taxes                         |                        
| | Tax in respect of prior years         |                        
| |                                       |                        
| |                                       |                        
| |                                       |                        

F - 24

---

---



CIMATRON LIMITEDNOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except share and per share data)

|NOTE 12 |  | INCOME TAXES (Cont.)
|------- | - | --------------------

| | C. | Deferred
income taxes
| | -- | ---------------------

| | Deferred
income taxes reflect the net tax effects of temporary differences between the carrying
amounts of assets and liabilities for financial reporting purposes and the amounts used
for income tax purposes.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Significant
components of the Company and its subsidiaries assets are as follows.
| | ---------------------------------------------------------------------------------

| |                              | December 31,
| | ---------------------------- | ------------
|
|
|
|
| | Deferred tax assets:         |             
| | Loss carryforwards           |             
| | Other reserve and allowances |             
| |                              |             
| | Total deferred tax assets    |             
| | Valuation allowance          |             
| |                              |             
| |                              |             
| |                              |             
| |                              |             
| | Deferred tax liabilities:    |             
| | Software development costs   |             
| |                              |             
| |                              |             
| |                              |             

| | The
Company has provided valuation allowances in respect of deferred tax assets resulting
from net operating loss carry forwards in Israel and for part of its net operating loss
carry forwards in the US. Management currently believes that it is more likely than not
that those deferred tax losses will not be realized in the foreseeable future.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

25

---

---



CIMATRON LIMITEDNOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except share and per share data)

|NOTE 12 |  | INCOME TAXES (Cont.)
|------- | - | --------------------

| | D. | Under
the Income Tax Law (Adjustments for Inflation) 1985, income for tax           purposes is
measured in terms of earnings in NIS, adjusted for the changes in           the C.P.I.
Following is a reconciliation of income taxes calculated at the           statutory tax
rate in Israel to the actual income tax in the financial           statements:
| | -- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |                                                                        | Year ended December 31,
| | ---------------------------------------------------------------------- | -----------------------
|
|
|
|
| | Net Income (loss) as reported in the                                   |                        
| | consolidated statements of operations                                  |                        
| |                                                                        |                        
| | Income taxes under statutory tax rate                                  |                        
| |                                                                        |                        
| | Increase (decrease) in taxes:                                          |                        
| |                                                                        |                        
| | Increase in valuation allowance                                        |                        
| |                                                                        |                        
| | Increase in taxes resulting from permanent differences and non         |                        
| | deductible expenses                                                    |                        
| | Tax in respect of prior year                                           |                        
| | Differences in taxes arising from differences between Israeli currency |                        
| | income and dollar income, net *                                        |                        
| | Other                                                                  |                        
| |                                                                        |                        
| | Income taxes in the statements                                         |                        
| | of operations                                                          |                        
| |                                                                        |                        

| | * | Resulting
from the differences between the changes in the Israeli CPI (the basis for computation of
taxable income of the Company and its Israeli Subsidiary) and the exchange rate of
Israeli currency relative to the dollar
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | E. | Tax
assessments
| | -- | ---------------

| | The
Company has been issued final tax assessments by the Israeli income tax authorities
through tax year ended December 31, 2000.
| | ---------------------------------------------------------------------------------------------------------------------------------

| | Certain
subsidiaries of the Company in Europe received tax assessments through the tax year ended
December 31, 2004.
| | --------------------------------------------------------------------------------------------------------------------

|NOTE 13 |  | TRANSACTIONS WITH RELATED PARTIES
|------- | - | ---------------------------------

| | A. | In February 2002, Koonras Technologies Ltd., a subsidiary of Polar Investments
          Ltd. (Koonras) and DBSI Investments Ltd. (DBSI)
          consummated a transaction with Zeevi Computers and Technology Ltd.
          (ZCT), by which they acquired all of Ordinary Shares of the Company
          previously held by ZCT.
| | -- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 26

---

---



CIMATRON LIMITEDNOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except share and per share data)

|NOTE 13 |  | TRANSACTIONS WITH RELATED PARTIES (Cont.)
|------- | - | -----------------------------------------

| | B. | The
following transactions with Koonras and DBSI are included in the financial
          statements:
| | -- | ----------------------------------------------------------------------------------------------------

| |                 | Year ended December 31,
| | --------------- | -----------------------
|
|
|
|
| | Management fees |                        

|NOTE 14 |  | SELECTED STATEMENTS OF OPERATIONS DATA
|------- | - | --------------------------------------

| | A. | Revenues
| | -- | --------

| |                                                                        | Year ended December 31,
| | ---------------------------------------------------------------------- | -----------------------
|
|
|
|
| | Revenue by geographical region:                                        |                        
| | Israel                                                                 |                        
| | Europe                                                                 |                        
| | Far East                                                               |                        
| | North America                                                          |                        
| | Others                                                                 |                        
| |                                                                        |                        
| |                                                                        |                        
| |                                                                        |                        
| |                                                                        |                        
| | Revenue through major distributors, as a percentage of total revenues: |                        
| | Distributor (A)                                                        |                        
| | Distributor (B)                                                        |                        

| | B. | Cost
of revenues
| | -- | ----------------

| |                                                       | Year ended December 31,
| | ----------------------------------------------------- | -----------------------
|
|
|
|
|
| | Hardware and software                                 |                        
| | Salaries and employee benefits                        |                        
| | Amortization of capitalized software development cost |                        
| | Royalties to the Chief Scientist                      |                        
| | Depreciation                                          |                        
| | Other                                                 |                        
| |                                                       |                        
| |                                                       |                        
| | Decrease in inventory                                 |                        
| |                                                       |                        
| |                                                       |                        
| |                                                       |                        

| | C. | Selling,
general and administrative expenses
| | -- | --------------------------------------------

| |                                     | Year ended December 31,
| | ----------------------------------- | -----------------------
|
|
|
|
| | Marketing costs                     |                        
| | Selling expenses                    |                        
| | General and administrative expenses |                        
| | Depreciation                        |                        
| |                                     |                        
| |                                     |                        
| |                                     |                        

F - 27

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CIMATRON LIMITEDNOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, except share and per share data)

# SCHEDULE

# VALUATION AND QUALIFYING
ACCOUNTS

| |                                                     | Year ended December 31,
| | --------------------------------------------------- | -----------------------
|
|
|
|
| | Allowance for doubtful account at beginning of year |                        
| | Provision (*)                                       |                        
| | Translation adjustments                             |                        
| | Accounts receivable written off                     |                        
| |                                                     |                        
| |                                                     |                        
| | Allowance for doubtful accounts at end of year      |                        
| |                                                     |                        

| | (*)In 2006, including a balance of $183 provision for doubtful debts in a newly
          consolidated subsidiary, as of the acquisition date
| | ---------------------------------------------------------------------------------------------------------------------------------------------

F - 28

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