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

# FORM 20-F

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

# OR

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

| | For
the fiscal year ended December 31, 2004
| | -------------------------------------------

# OR

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

| | For
the transition period from __________ to __________
| | -------------------------------------------------------

# Commission file number
0-29884

# B.V.R. Systems (1998)
Ltd.(Exact name of
Registrant as specified in its charter)

# Israel (Jurisdiction of incorporation or organization)

# 16 Hamelacha Street,
Park Afek, Rosh Haayin 48091, Israel (Address of principal executive offices)

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

|                    |                                          
|------------------- | -----------------------------------------
|
|
|
|
|Title of each class | Name of each exchange on which registered
|None                | None                                     

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

# Ordinary Shares, NIS
1.00 par value 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)

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:

# 95,400,210 Ordinary
Shares, NIS 1.00 par value per share

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

Yes x
No o

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

Item 17 o  Item 18 x



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# INTRODUCTION

B.V.R.
          Systems (1998) Ltd., an Israeli company, was formed in January 1998 to receive
          all of the assets and liabilities of the defense-related business of BVR
          Technologies Ltd. in accordance with the terms of a reorganization plan. The
          reorganization plan was consummated, and BVR commenced operations as an
          independent company in October 1998, effective as of January 1, 1998.
          BVR is controlled by Chun Holdings LP.

Except
for the historical information contained herein, the statements contained in this annual
report are forward-looking statements, within the meaning of the Private Securities
Litigation Reform Act of 1995 with respect to our business, financial condition and
results of operations. Statements that use the terms believe,
anticipate, expect, plan, intend,
estimate, anticipate, project and similar expressions
in the affirmative and the negative are intended to identify forward-looking statements.
These statements reflect our current views with respect to future events and are based on
current assumptions, expectations, estimates and projections about our business and the
markets in which we operate and are subject to risks and uncertainties. Actual events
(including our results) could differ materially from those anticipated in these
forward-looking statements as a result of various factors, including the risks discussed
in Item 3. Key Information  D. Risk Factors and elsewhere in this annual
report. Except as required by applicable law, including the securities laws of the United
States, we do not undertake any obligation nor intend to update or revise any
forward-looking statements, whether as a result of new information, future events or
otherwise.

As
used in this annual report, the terms we, us, our,
the Company and BVR mean B.V.R. Systems (1998) Ltd., and our
consolidated subsidiaries, unless otherwise indicated.

References
in this annual report to Elisra refer to our former controlling shareholder, Elisra
Electronics Systems Ltd.

References
in this annual report to Chun refer to our controlling shareholder, Chun Holdings LP.

References in
this annual report to fiscal 2002 refer to our fiscal year ended December 31, 2002,
references to fiscal 2003 refer to our fiscal year ended December 31, 2003,
references to fiscal 2004 refer to our fiscal year ended December 31, 2004 and
references to fiscal 2005 refer to our fiscal year ended December 31, 2005.

References
in this annual report to the Companies Law refer to the Israeli Companies Law 5759-1999.

Ehud
and Atas are our trademarks. All other trademarks and trade names
appearing in this annual report are owned by their respective holders.



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# PART I

|ITEM 1. | Identity of Directors, Senior Management and Advisors
|------- | -----------------------------------------------------

| | Not
applicable.
| | ---------------

|ITEM 2. | Offer Statistics and Expected Timetable
|------- | ---------------------------------------

| | Not
applicable.
| | ---------------

1

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|ITEM 3. | Key Information
|------- | ---------------

|A. | Selected
Consolidated Financial Data
|-- | ------------------------------------

We
derived the following selected consolidated financial data presented below for each of the
years ended December 31, 2002, 2003 and 2004 from our Consolidated Financial
Statements and related notes included in this annual report. The selected consolidated
financial data for the years ended December 31, 2000 and 2001 have been derived from
audited financial statements not included in this annual report. Our Consolidated
Financial Statements have been prepared in accordance with generally accepted accounting
principles in Israel, or Israeli GAAP. Israeli GAAP, as applicable to our financial
statements, differs in certain significant respects from generally accepted accounting
principles in the United States, or U.S. GAAP. See Note 24 to the Consolidated Financial
Statements included in this annual report for a discussion of the certain differences
between Israeli and U.S. GAAP.

You
should read the selected consolidated financial data together with the section entitled
Item 5. Operating and Financial Review and Prospects and our Consolidated
Financial Statements included elsewhere in this annual report. Please see Note 2 of our
Consolidated Financial Statements for an explanation of the number of shares used in
computing per share data.

|                                           | Year Ended December 31,
|------------------------------------------ | -----------------------
|
|
|
|
|Statement of Operations Data:              |                        
|Revenues                                   |                        
|Cost of revenues:                          |                        
|Costs and expenses                         |                        
|                                           |                        
|Gross profit (loss)                        |                        
|Operating expenses:                        |                        
|Research and development expenses          |                        
|Selling and marketing expenses             |                        
|General and administrative expenses        |                        
|                                           |                        
|Total operating expenses                   |                        
|                                           |                        
|Operating profit (loss)                    |                        
|Financing expenses, net                    |                        
|Other Income (expenses), net               |                        
|                                           |                        
|Loss before income taxes                   |                        
|Income tax (expenses) benefit              |                        
|                                           |                        
|Net loss                                   |                        
|                                           |                        
|Basic and diluted net loss per ordinary    |                        
|share                                      |                        
|                                           |                        
|Weighted average number of Ordinary Shares |                        
|used in computing basic and diluted net    |                        
|loss per ordinary share                    |                        
|                                           |                        

2

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|                                               | Year Ended December 31,
|---------------------------------------------- | -----------------------
|
|
|
|
|
|Reconciliation to U.S. GAAP:                   |                        
|Net loss                                       |                        
|Income tax (expenses) benefit on income        |                        
|Allocation of non-employee stock option        |                        
|expenses under the fair value based method for |                        
|all amounts ,net of related tax effects        |                        
|Loss under U.S. GAAP                           |                        
|                                               |                        
|Basic and diluted net loss per                 |                        
|ordinary share under U.S. GAAP                 |                        
|                                               |                        
|Weighted average number of Ordinary Shares     |                        
|used in computing basic and diluted net        |                        
|loss per ordinary share under U.S. GAAP .      |                        
|                                               |                        

|                                 | As of December 31,
|-------------------------------- | ------------------
|
|
|
|
|Consolidated Balance Sheet Data: |                   
|Israeli GAAP:                    |                   
|Cash and cash equivalents        |                   
|Working capital (deficit)        |                   
|Total assets                     |                   
|Short-term bank credit and loans |                   
|Shareholders equity (deficit)    |                   
|U.S. GAAP:                       |                   
|                                 |                   
|Total assets                     |                   
|                                 |                   
|Shareholders equity (deficit)    |                   

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

| | Not
applicable.
| | ---------------

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

| | Not
applicable.
| | ---------------

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

Our
business, operating results and financial condition could be seriously harmed due to any
of the following risks. If we do not successfully address any of the risks described
below, we could experience a material adverse effect on our business, results of
operations and financial condition and our share price may decline. We cannot assure you
that we will successfully address any of these risks.

3

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# Risks Related to our
Business

We have reported
operating and net losses in the past and may report operating and net losses in the
future.

We
began business in 1998. We reported a net loss of $1.2 million for the year ended December
31, 2004, a net loss of $ 6.5 million for the year ended December 31, 2003, a net loss of
$5.8 million for the year ended December 31, 2002 and a net loss of $0.9 million for
the year ended December 31, 2001. We can offer no assurance that we will achieve
profitable operations or that any profitable operations will be sustained. Future
profitability will depend on our ability to develop new products, the degree of market
acceptance of our existing and new products and the level of competition in the markets in
which we operate. If we continue to incur net losses, our cash flow position could be
further damaged, our operations could be jeopardized and our share price could decrease.

Although we had positive
shareholders equity and positive working capital as of December 31, 2004, we may
stillneed to raise additional funds which may not be available.

As
of December 31, 2004 our shareholders equity was $3.6 million, and we had positive
working capital amounting to $2.7 million. We expect that our existing cash balance,
together with our forecasted cash flows from operating activities for 2005, including
orders forecasted in the budget approved by our Board of Directors, will be sufficient for
meeting our present working capital and capital expenditure needs. If our operations do
not generate cash to the extent currently anticipated or if any of the risk factors
discussed in this annual report materialize, we may need to raise additional funds in the
future for a number of uses, including:

| |  | implementing
further marketing and sales activities;
| | - | ----------------------------------------------------

| |  | hiring
additional qualified personnel; and
| | - | ------------------------------------------

| |  | expanding
research and development programs.
| | - | --------------------------------------------

We
may not be able to obtain additional funds on acceptable terms or at all. If we cannot
raise needed funds on acceptable terms, we may not be able to:

| |  | maintain
the level of our current operations;
| | - | ---------------------------------------------

| |  | develop
new products;
| | - | ---------------------

| |  | enhance
our existing products;
| | - | ------------------------------

| |  | remain
current with evolving defense technologies;
| | - | --------------------------------------------------

| |  | take
advantage of future opportunities; or
| | - | ------------------------------------------

| |  | respond
to competitive pressures or unanticipated requirements.
| | - | ---------------------------------------------------------------

4

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Because we receive large
product orders from a relatively small number of customers, our sales and operating
results are subject to substantial periodic variations. Our revenues and operating results
for a specific quarter may not be indicative of our future performance, making it
difficult for investors to evaluate our future prospects based on the results of any one
quarter.

Due
to the nature of our customers and products, we receive relatively large orders for our
products from a relatively small number of customers. Consequently, individual orders from
individual customers can represent a substantial portion of our sales in any one period
and significant orders by any customer during one period may not be followed by further
orders from the same customer in subsequent periods. Our sales and operating results are
subject to very substantial periodic variations. Because our quarterly performance is
likely to vary significantly, the results of our operations for any quarter are not
necessarily indicative of the results that we might achieve for any subsequent period and
consequently, quarter-to-quarter comparisons of our operating results may not be
meaningful.

We may not be able to
convert all of our backlog into revenue.

We
sell the majority of our products through individual purchase orders. Many of our
customers have the right to terminate orders by paying the cost of work in process plus a
related profit factor. Customers may cancel orders due to the cancellation of a budget or
for other reasons. As of December 31, 2004, purchase orders and contractual arrangements
decreased very slightly to approximately $19.4 million, compared with $19.7 million as of
December 31, 2003. If we experience cancellations of pending contracts, terminations or
reductions of contracts in progress, we may not be able to convert our entire backlog into
revenue. Any further reduction in backlog will adversely affect our business, financial
condition and results of operations.

The loss of any of our
major customers would result in a loss of a significant amount of our revenues.

Two
of our customers, namely a government of a country in Asia Pacific that awarded us several
projects and a customer located in America, accounted for 27% and 34% of our revenues in
fiscal 2004, respectively. We cannot be certain that these and other customers will
maintain the size of their respective purchase orders, or will not reschedule or cancel
existing purchase orders. We expect that sales of our products to relatively few customers
will account for a significant portion of our net revenues for the foreseeable future.
Consequently the cancellation of an order from any one customer may have a material
adverse effect on our business.

5

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We depend on a limited
number of suppliers for some key components and therefore the loss of one or more of thesesuppliers
could cause production delays, a reduction of revenues or an increase in costs.

We
currently purchase some key components used in our products from only once source and
purchase others from only a limited number of sources. For example, we currently depend
upon a single manufacturer, Silicon Graphics, Inc., to manufacture the computers
incorporated in our high-end simulators. If this supplier were unable to produce our
required quantities, we would be faced with a shortage of critical components. We are also
experiencing an increase in the lead-time for delivery of some of our key components. We
may not be able to find alternative sources in a timely manner if suppliers of our key
components become unwilling or unable to provide us with adequate supplies of these key
components when we need them or increase their prices. This could cause our relationships
with customers to suffer and our revenues to decline. Even if we are able to secure
alternative sources for components, our costs could increase. We do not have long-term
supply contracts with Silicon Graphics or any other of our suppliers.

Because competition in
the market for our products is intense, we may lose market share, and we may be unable toachieve
or maintain profitability.

We
compete with numerous other contractors on the basis of product performance, price,
reputation, technical and managerial capability, product maintenance cost and
responsiveness to customers requirements. Our ability to successfully compete for
and retain such new projects and customers is highly dependent on technical excellence,
management proficiency, strategic alliances, cost-effective performance and the ability to
recruit and retain key personnel.

The
continuing consolidation of the global defense industry, which has decreased the number,
but increased the relative size and resources of our competitors, has resulted in
intensified competition. Some of the competitors which are the top-tier contractors for
competing products, such as divisions of Thales, Lockheed-Martin, L-3 Communications,
Cubic, Israel Aircraft Industries (in some countries), Elbit Systems and CAE, have
substantially greater financial, marketing and other resources than ours. These
contractors compete with us in some cases by offering more aggressive pricing and devoting
greater resources to product marketing or development than we do. This competition may
result in lower prices or reduced demand for our products and a corresponding reduction in
our revenues that may impair our ability to maintain profitability.

We rely on contracts with
governments and defense contractors entities that entail certain risks, all of
which mayadversely affect our operations.

As
is the case with many companies that derive a substantial portion of their revenues from
government contracts for defense-related products, our business is subject to specific
risks, which include changes in governmental appropriations and national defense policies
and priorities, a change of government in the customers country, as well as
political changes or alterations in the governments policy regarding the issue of
export and import permits to various countries and the policies of specific governments to
favor local over foreign defense products suppliers. We may be negatively affected by one
or more of these factors.

6

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Generally,
our contracts with governments may be terminated or suspended by such governments as a
result of factors which may not depend on us, including as a result of a decrease in the
defense budget, a decline in the military expenditures of governments, the cancellation or
a significant cutback of a large project in which we participate or as a result of
situations such as a state of war, acts of God or other circumstances seriously disrupting
the public safety, peace or good order of the customers country. Our contracts with
non-governmental military contractors sometimes contain similar provisions. In cases in
which we received advanced payments prior to incurring the cost of fulfilling such
contracts, we realized a positive project cash flow. Particularly, in the last threeyears, we have received substantial advances under our contracts. In the event of an
early termination of a contract, we may be required to return a portion of such advanced
payment. Upon such early termination, we would, in most cases, be entitled to
reimbursement for our incurred contract costs and to payment of a proportionate share of
our fee or profit for the work actually performed. In order to reduce risks of financial
exposure resulting from an early termination of a contract, we attempt to stagger funding
for projects in accordance with the rate of performance and to insure ourselves from that
risk by ensuring positive cash flow in the life cycle of the program. If, however, we are
not entitled to all or a portion of such compensation our operations would be adversely
effected.

Our ability to export our
products is subject to approvals by Israeli and United States governmental agencies.

Our
export of military goods and information is subject to approval of SIBAT, the Foreign
Defense Assistance and Defense Export Organization of the Israel Ministry of Defense. To
date, we have received all required approvals from SIBAT, but there can be no assurance
that we will receive such approvals in the future or that the Israeli government will not
impose additional requirements on our manufacturing or export activities, which may
require us to incur additional substantial expenses or which may otherwise have a material
adverse effect on our operations. SIBATs policy has generally been to encourage the
export of military goods and knowledge; however, SIBAT generally does not permit sales to
countries that are in a state of war or hostility with Israel and countries which may
otherwise endanger the State of Israel.

We
purchase from manufacturers in the United States substantially all of the commercial
computers, a portion of the air combat maneuvering instrumentation pods hardware and
other off-the-shelf products, such as navigation systems, which we incorporate
into our products. The export of such components is subject to the approval of the United
States Department of Commerce and/or the United States Department of Defense, which often
restricts sales to certain countries. Following the events of September 11, 2001, we
experienced delays in the receipt of such required approvals. For example, we experienced
a delay in the delivery of several components of a system to a customer and incurred
additional costs, as a result of the need to modify such components, because of a delay in
the receipt of an export approval that has since been obtained. Further, there can be no
assurance that we will receive such approvals in the future or that the United States
Government will not impose additional requirements on our manufacturing or export
activity, which might require us to incur substantial expenses, and/or find and contract
with alternative suppliers in countries that do not impose similar export restrictions.

7

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International political
and economic uncertainty could have an adverse impact on our business and on our operating results.

In
fiscal 2004, 34% of our total revenues came from customers located in Asia Pacific. We
estimate that a material portion of our revenues in 2005 will come from customers in that
region. The international political and economic uncertainty and the ongoing war on
terrorism may adversely impact our ability to maintain the level of our sales to our
foreign existing and prospective customers and to develop new business abroad.

We are exposed to
general, global economic and market conditions.

Our
business is subject to the effects of general economic conditions globally, and, in
particular, conditions in the market for simulation systems for military and civilian
applications. In recent quarters, our sales efforts have been adversely affected as a
result of unfavorable economic conditions and reduced capital spending in Asia Pacific. If
the economic conditions in a specific country in Asia Pacific, the government of which is
a significant customer of ours, or if the global economic slowdown continues, we may
continue to experience material adverse impacts on our business, operating results, and
financial condition.

Our contracts have a
fixed-price and payment thereunder is subject to timely accomplishment of milestones,
which maysubject us to unfavorable terms.

The
majority of our contracts are for a fixed-price, meaning they are not subject to
adjustment for the costs incurred in the performance of the contract. Consequently, we
assume the risk that increased or unexpected costs may reduce our profits or generate a
loss. The risk can be particularly significant under a fixed-price contract involving
research and development with respect to new technologies.

The
majority of our contracts with our customers provide that after we receive an advance
payment at the commencement of a project, additional payments are payable upon progress or
achievement of specific milestones. In a majority of the projects, we are required to
provide performance guarantees in an amount equal to a specific percentage of the contract
price.

8

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Most
agreements with our customers impose penalties or reduce the amount payable to us in the
event that the completion of a phase of a project is delayed. In addition, we are
generally responsible for the delays and defaults of our subcontractors. To mitigate our
risk, we attempt to impose liability on our subcontractors on a back-to-back
basis when such contracts delay or default could expose us to liability. However, we
may not be able to obtain full recovery for such liabilities from such subcontractors.

We
may encounter significant reduction in profits or incur losses as a result of one or more
of the above unfavorable terms.

We are controlled by Chun
Holdings LP which, in the aggregate beneficially owns approximately64.89% of our
outstanding Ordinary SharesMay 312005. Therefore, Chun Holdings LP is able to elect the
majority of our directors and exercise control over the outcome of matters requiring
shareholders approval.

As
of May 31, 2005, Chun Holdings LP. or Chun LP, an Israeli limited partnership beneficially
owned an aggregate of 58,142,608 of our Ordinary Shares and a warrant to purchase an
additional 10,864,444 of our Ordinary Shares (representing, assuming the exercise of such
warrant and assuming no other exercise of our convertible securities, approximately 64.89%
of our currently outstanding Ordinary Shares). As a result, Chun LP controls the outcome
of various actions that require our shareholder approval. For example, Chun LP could elect
most of our directors, delay or prevent a transaction in which shareholders might receive
a premium over the prevailing market price for their shares and prevent changes in control
or management.

Because we operate in
international markets, we are subject to additional risks.

We
currently offer our products in a number of countries and a key component of our marketing
strategy is to continue to expand in foreign markets. Our business is subject to risks
which often characterize international markets, including:

| |  | economic
and political instability;
| | - | -----------------------------------

| |  | import
or export licensing requirements;
| | - | ----------------------------------------

| |  | difficulties
in collecting accounts receivable;
| | - | -----------------------------------------------

| |  | longer
payment cycles;
| | - | ----------------------

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

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

| |  | potentially
adverse tax consequences; and
| | - | -----------------------------------------

| |  | potentially
weak protection of intellectual property rights.
| | - | ------------------------------------------------------------

These
risks may impair our ability to generate revenues from our overseas sales efforts, which
constitute the majority of our business.

9

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Our profitability could
suffer if third parties infringe upon our proprietary technology.

Our
profitability could suffer if third parties infringe upon our intellectual property rights
or misappropriate our technologies and trademarks for their own businesses. To protect our
rights to our intellectual property, we rely on a combination of patent, trademark and
copyright law, trade secret protection, confidentiality agreements and other contractual
arrangements with our employees, some of our affiliates, strategic partners and others. We
currently own five United States patents and several registered and pending trademarks,
filed in several countries. Several of these patents were also granted or applied for in
Israel and/or in several countries in the European Community and worldwide. The protective
steps we have taken may be inadequate to deter misappropriation of our proprietary
information. We may be unable to detect the unauthorized use of, or take appropriate steps
to enforce, our intellectual property rights. Effective patent, trademark, copyright and
trade secret protection may not be available in every country in which we offer, or intend
to offer, our products. Any failure to adequately protect our intellectual property could
devalue our proprietary content and impair our ability to compete effectively. Further,
defending our intellectual property rights could result in the expenditure of significant
financial and managerial resources.

Our products may infringe
on the intellectual property rights of others.

Third
parties may assert against us infringement claims or claims that we have violated a patent
or infringed a copyright, trademark or other proprietary right belonging to them. Any
infringement claim, even if not meritorious, could result in the expenditure of
significant financial and managerial resources.

# Risks Relating to Our
Location in Israel

Conditions in Israel
affect our operations and may limit our ability to produce and sell our products.

We
are incorporated under Israeli law and our principal offices, research and development and
manufacturing facilities are located in the State of Israel. Political, economic and
military conditions in Israel directly affect our operations. Since the establishment of
the State of Israel in 1948, a number of armed conflicts have taken place between Israel
and its Arab neighbors, and the continued state of hostility, varying in degree and
intensity, has led to security and economic problems for Israel. Since
September 2000, the violence between Israel and the Palestinians has continued with
varying levels of severity into 2005. Israel has experienced terrorist incidents within
its borders, including in the West Bank and Gaza Strip. As a result, negotiations between
Israel and representatives of the Palestinian Authority ceased. We could be adversely
affected by hostilities involving Israel, the interruption or curtailment of trade between
Israel and its trading partners, or a continuous downturn in the economic or financial
condition of Israel. In addition, several countries continue to restrict business with
Israel and with companies having operations in Israel. We could be negatively affected by
adverse developments in the peace process, including the recent violence, or by
restrictive laws or practices directed towards Israel or Israeli exporters.

10

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Like
all male adult citizens and permanent residents of Israel, our directors, officers and
employees who are under the age of 40, unless exempt, are obligated to perform up to 36
days of military reserve duty annually. Additionally, all such residents are subject to
being called to active duty at any time under emergency circumstances. Some of our
officers and employees are currently obligated to perform annual reserve duty. No
assessment can be made as to the full impact of such requirements on our workforce or
business if conditions in Israel should change, and no prediction can be made as to the
effect of any expansion or reduction of such military obligations on us. See Item 4.
Information on the Company  B. Business Overview  Conditions in Israel.

We benefit from
government programs and tax benefits that may be discontinued or reduced.

We
have received grants and are entitled to tax benefits under Government of Israel programs.
In order to maintain our eligibility for these programs and benefits, we must continue to
meet specified conditions, including making specified investments in fixed assets and
paying royalties with respect to grants received. In addition, some of these programs
restrict our ability to manufacture particular products or transfer particular technology
outside of Israel. If we fail to comply with these conditions in the future, the benefits
received could be cancelled and we could be required to pay increased taxes. The
Government of Israel has reduced the benefits available under these programs in recent
years and these programs and tax benefits may be discontinued or curtailed in the future.
If the Government of Israel ends these programs and tax benefits, our business, financial
condition and results of operations could be materially adversely affected.

Because a substantial
portion of our revenues is generated in U.S. Dollars and a portion of our expenses is
incurredin New Israeli Shekels, our results of operations may be seriously harmed if
the rate of inflation in Israel exceedsthe rate of devaluation of the New Israeli
Shekel against the U.S. Dollar.

We
generate a substantial portion of our revenues in dollars, but we incur a portion of our
expenses, principally salaries and related personnel expenses, 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 dollar or that the timing of
this devaluation lags behind inflation in Israel. In 2004, the rate of inflation together
with the devaluation of the dollar in relation to the NIS adversely affected our
dollar-linked results of operations. If the dollar-linked costs of our operations in
Israel continue to increase, our dollar-linked results of operations will continue to be
adversely affected by such increases.

11

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It may be difficult to
enforce a U.S. judgment against us, our officers and directors named in this annual
report orto assert United States securities laws claims in Israel or serve
process on our officers.

We
are incorporated in the State of Israel. All of our executive officers and directors named
in this annual report are nonresidents of the United States, and a substantial portion of
our assets and the assets of these persons are located outside the United States.
Therefore, it may be difficult to enforce a judgment obtained in the United States based
upon the civil liabilities provisions of the United States Federal securities laws against
us or any of those persons or to effect service of process upon these persons in the
United States. Additionally, it may be difficult to enforce civil liabilities under United
States federal securities laws in original actions instituted in Israel.

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

We
are incorporated under Israeli law. The rights and responsibilities of holders of our
Ordinary Shares are governed by our memorandum of association, our articles of association
and by Israeli law. These rights and responsibilities differ in some respects from the
rights and responsibilities of shareholders in typical U.S. corporations. In particular, a
shareholder of an Israeli company has a duty to act in good faith toward the company and
other shareholders and to refrain from abusing his power in the company, including, among
other things, in voting at the general meeting of shareholders on certain matters. See
Item 10. Additional Information  B. Memorandum and Articles
of Association.

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

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

B.V.R.
          Systems (1998) Ltd., an Israeli company, was formed in January 1998 to receive
          all of the assets and liabilities of the defense-related business of BVR
          Technologies Ltd., or BVR-T, in accordance with the terms of a reorganization
          plan. The reorganization plan was consummated, and BVR commenced operations as
          an independent company in October 1998, effective as of January 1,
          1998. Our principal executive offices and research and development facilities
          are located at 16 Hamelacha Street, Afek Industrial Park, Rosh Haayin
          48091, Israel, and our telephone number is 972-3-900-8000. Our manufacturing
          facilities are located in Ashdod, Israel. Our wholly-owned subsidiary BVR-S
          Pacific PTE, which is incorporated under the laws of Singapore, is located in
          Singapore.

12

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In
2003 there was a change in control of the Company. See Item 7  Major
Shareholders and Related Party Transactions  B. Related Party Transactions for
more information.

Our
web site is www.bvrsystems.com. Information on our web site is not incorporated by
reference in this annual report.

# Capital Expenditures

Since
January 1, 2002, our capital expenditures amounted to approximately $0.8 million. The
focus of our capital expenditure program primarily included investment in computers and
electronic equipment.

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

BVR is engaged in the military
training and simulation industry. According toFrost & Sullivan, the overall
market size of our industry is estimated to be approximately $8 billion. The overall
market can be divided into various training methods, including Live and Embedded training;
Virtual training (simulators); and Constructive training. Each of these training methods
can be further sub-divided into applications for Air, Ground and Navalsystems.

# General

We
are engaged in the development, manufacture, marketing and sale of sophisticated training
and simulation systems for military and civilian applications. We are currently engaged in
the following lines of products:

| |  | Live
and Embedded training systems:
| | - | -----------------------------------

| |  | On-Board,
Combat Training Systems such as the "Ehud" Air Combat Maneuvering Instrumentation, or
ACMI, Naval                            Combat Instrumentation System, or NCMI; and
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Embedded
simulation systems such as Embedded Virtual Avionics or EVA, and In Flight Electronic
Warfare Simulation, or IFEWS.
| | - | ----------------------------------------------------------------------------------------------------------------------------

| |  | Virtual
and Constructive Training systems, such as:
| | - | ---------------------------------------------------

| |  | Flight
simulators for fighter aircraft, helicopters, trainer aircraft, Unmanned Aerial Vehicles
| | - | -----------------------------------------------------------------------------------------------

| |  | Armored
& Gunnery Simulators and Infantry Simulators
| | - | ----------------------------------------------------

| |  | Naval
Tactical Trainers, or NTT, and Action Speed Tactical Trainers, or ASTT
| | - | ----------------------------------------------------------------------------

| |  | Smart
tactical Scenario Generators, or SSG
| | - | ------------------------------------------

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Our
products offer advanced, highly effective and cost-efficient solutions to operational and
tactical training needs. Our products are based on a complete training philosophy, which
enables our customers to reduce the amount of actual military equipment used in training
while enhancing the quality of the training exercises, thereby significantly reducing the
risks associated with actual operations and training in a live operational scenario. In
addition, our military products improve the operational capabilities of armed forces
through enhanced command and control in the battlefield and integration between fighting
units.

# Our Product Line

We
continuously design, develop and market new generation technologies for three main product
lines: on-board training; simulators; and embedded simulation. The advances we made
in the field reflect our vast experience, unique approach to technological innovation and
our drive to singularly fulfill the needs of our global military customers.

# Live and Embedded
Training

Our
Live and Embedded training systems are designed to improve real-time management,
monitoring, training, safety and debriefing for live training exercises and operations
carried out by modern air, naval and ground forces. The on-board training product line
includes the following systems:

Ehud ACMI

Air Combat Maneuvering
Instrumentation

The
Ehud air combat maneuvering instrumentation, or ACMI, system is a complete on-board,
autonomous training and safety suite. This system is designed to enhance the airborne
training of an aircraft crew on a wide variety of missions.

Ehud
offers a unique combination of range-less, real-time and post-flight training and
debriefing system together with safety warnings and operational capabilities. The system
is effective for air-to-air, air-to-ground and electronics warfare pilot training with an
unlimited number of participants.

The
EhudACMI system includes features such as mid-air and ground collision warning
systems, which significantly enhance training safety. The Ehud ACMI system has been
flying operationally since 1994 and has been delivered to many leading air forces
worldwide

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Naval Combat
Instrumentation System

Our
naval combat maneuvering instrumentation, or NCMI, is a full-scale on-board training
system. The system enables the conduct of both live field training sessions at sea
and constructive war-gaming exercises ashore.

The
basic concept behind our NCMI is the deployment of a distributed embedded simulation
system on-board an instrumented ship and a maritime patrol aircraft.

Our
NCMI system supports the debriefing, analysis, and evaluation of naval warfare exercises
at all command levels.

Our
NCMI system supports various training levels ranging from operators training at
console level, through sub-team and team training, and up to full fleet training. Our NCMI
system provides training in tactical simulators and enhances the reality of seaborne
exercises through the use of computer generated forces, or CGF, integrated with live
exercises. Typically, the exercise is coordinated between the participants via a datalink
system, which supports the creation of a distributed simulation network.

# Embedded Simulation

Our
embedded simulation product line is comprised of a wide variety of products. These
advanced solutions are an outcome of the synergies gained from the combination of on-board
training and simulation technologies. With vast experience in these two fields, we believe
that we are well positioned to play a leading role in this evolving market.

Embedded Virtual Avionics
Suite, or EVA

Our
Embedded Virtual Avionics Suite, or EVA is a state-of-the-art embedded simulation suite,
installed on basic or advanced trainer aircraft, transforms training aircraft into virtual
advanced fighter aircraft. A training aircraft equipped with EVA may offer capabilities
such as actual flight simulation, in-flight live or virtual target threats, operational
scenarios of gradually increasing complexity, full debriefing capabilities and flight
safety features. Our proprietary EVA technology is based on a patent owned by us and
registered in several regions throughout the world.

An
EVA standard training aircraft is equipped or refitted to replicate the cockpit and
avionics instrumentation panel of specifically targeted advanced fighters. The refitted
trainers will resemble the behavior, displays and controls of the advanced fighter sensors
(such as air-to air RADAR, air to ground RADAR and RADAR Warnings Receiver (RWR), which is
part of the Electronic warfare suite of most advanced fighters and seekers) and weapon
systems. Pilots flying the EVA-fitted trainer benefit from a real-time feel and
capabilities of the simulated advanced fighter aircraft. The system offers features such
as collision avoidance and hazard warning.

15

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To date, we have made no sales of our
EVA system.

In-Flight Electronic
Warfare Simulation, or IFEWS

Our
in-flight electronic warfare simulator, or IFEWS, is a complete, autonomous,
on-board threat-environment training and safety suite. The system is an embedded simulator
for the training and debriefing of EW scenarios, simulating the real EW systems in an
aircraft. IFEWS provides a virtual EW range and includes our post-flight debriefing
capabilities.

Our
IFEWS generates a wide range of on-board simulation of virtual ground and airborne
threats. The virtual range, created and managed by the IFEWS computer, authentically
simulates the characteristics, behavior and interactions of both the threatening weapon
systems and the aircrafts self protection suite, or SPS. Our system is tightly
coupled to the aircrafts existing EW suite. IFEWS simulates all relevant modes
of weapon system, including optical tracking modes and other modes not received by the
airborne EW suite.

After
landing, our PC-based ground station provides advanced After-Action Review (AAR)and
debriefing with a 3D analysis of crew performance, all weapon engagements, safety events
and mission scenarios.

Based
on the legacy of the Ehud ACMI and the HCMI systems, IFEWS provides
multiple features including: real-time training, realistic virtual threats, safety
elements and debriefing capabilities.

In
the first quarter of 2002, we completed preliminary flight tests with the Israel Air
Force, and we conducted further demonstration flight tests with the Israel Air Force
during the remainder of 2002. To date, we have made no sales of our IFEWS.

# Virtual and Constructive
Training

This
product line includes flight, naval and ground forces simulators for various platforms,
electronics and weapon systems. Our line of simulators covers a full range of training
scale,from basic procedural training to combat mission training and full mission training.
Our simulators are designed with high level architecture, or HLA, delivering the capacity
to perform sophisticated distributed mission training, or DMT, by communicating and
training with other simulators and training devices. Our simulator product lines include:

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| |  | Flight
Simulators;
| | - | ------------------

| |  | Ground
Forces Simulators;
| | - | -------------------------

| |  | Naval
Simulators; and
| | - | ---------------------

| |  | Weapon
and Electronic Systems Simulators
| | - | ----------------------------------------

Flight Simulators

Fighter
Aircraft Simulators.We have developed and manufactured fighter aircraft simulators
for numerous aircrafts, including the F-16C, F-16D, F-15, F-5, A-4 and Mirage-2000.

Full
Mission Simulators.Our full mission simulators provide training for all aspects of a
missions flight and procedures, including sophisticated weapon system simulations,
sensors and full standard and emergency procedure training. These simulators encompass a
high-fidelity cockpit replica and a large variety of visual systems covering a field of
view of up to 360°.

We
use high-end computers and personal computers, or PCs, as image generators to provide the
trainee with a high-resolution, fully-textured outside world visual presentation, based on
satellite imagery and three dimensional targets and shapes.

Our
full mission simulators provide pilots with complex tactical training, using multiple
computer generated forces, such as air, land, or sea participants.

Trainer
Aircraft Simulators.We developed and manufactured trainer aircraft simulators for
numerous aircraft, including the PC-7, MB-339 and Fouga Magister.

AMOS
 Cadet Screening Simulator.Our AMOS cadet screening and basic flight training
simulator has been developed for the Israel Air Force Fouga Magister trainer.

Our
system provides a methodology for the analysis of cadets learning abilities, through
screening while training.

Helicopter
Full Mission Simulator.

We
developed and manufactured helicopter simulators for helicopters, including the AS-550.

17

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Our
full mission simulators for helicopters are offered for assault and fully armed attack
helicopter simulation. The simulators are offered in a number of configurations, from a
limited front view outside world imagery to a full dome display. The full dome display
configuration includes a full-size cockpit replica for two pilots with a three channel
high-resolution full color outside world display. The resulting imagery fidelity level
enables the system to perform low flying missions and weapon deployment simulation. The
system is capable of simulating typical helicopter flights and attacks, including a full
range of malfunctions and emergency procedures. Our simulators also provide for tactical
training as the trainee can fly against user pre-programmed computer generated forces.

Unmanned Air Vehicle
Mission Simulators

We
developed and manufactured an unmanned air vehicle, or UAV, tactical mission simulators
for tactical UAV, for both the external pilot and the internal mission crew.

Our
UAV mission simulator supports training on near-to-real-life quality imaging systems for
the entire crew. Training can be executed both individually and as a team.

Our
UAV simulator provides training for missions such as battlefield surveillance and
reconnaissance, target location and acquisition, artillery fire control, electronic
intelligence gathering and electronic warfare, exploding UAV delivery, contaminated and
mined areas, international crises management, search and rescue services for civilian
purposes, training in malfunctions and emergency procedures.

Armor and Gunnery
Simulation Systems for Ground Forces

Integrated
Tactics and Armor Combat Trainer. Our integrated tactics armor and weapon system
vehicle combat trainer, or INTACT system fulfills the need for effective training,
debriefing and evaluation of army units. Our INTACT system was developed by experienced
army officers. INTACT is a multi-station armor and weapon vehicle tactical simulator
system. Our INTACT system provides training that ranges from individual level to combat
team multi-participant tactical exercises.

Our
INTACT system provides training levels from individual precision gunnery to combat team
multi-participant exercises and beyond. The training can include unlimited combinations of
manned and computer generated forces. The INTACT system fills the need for effective
training, debriefing and evaluation of ground forces. Our INTACT system simulates virtual
forces and integrates their actions with real forces, adding value to performance and
cost-effective training.

We
believe that our INTACT system provides unprecedented debriefing capabilities, including
full playback of executed exercises or previously stored exercises. Debriefing may be
performed at the instructor station or at a dedicated debriefing facility. Data is
monitored and stored throughout the training exercises for proficiency level and
operational parameters analysis, thus providing a powerful database for mission planning,
rehearsal and evaluation.

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Naval Simulators

We
developed a diversified product line of naval simulators based on dedicated replica
workstations and sophisticated visual images provide system training for operators and
officers. We specialize in quick responses to requests for unique tailor-made systems from
a wide range of naval customers.

Naval Tactical Trainer

Our
naval tactical trainer, or NTT, is a complete tactical training system providing a
solution for all shore-based tactical training needs. Our NTT is in operational use by the
Israel Navy at its main training base. Our NTT is used for the tactical training of
principal war officers and combat information center officers. In several regions of the
world, this product is also referred to as the Action Speed Tactical Trainer or ASTT.

Submarine Simulators

Our
submarine simulator is comprised of an attack team trainer, a periscope simulator and a
submarine driver simulator, which together provide for three different complementing
training facilities that can be operated in a standalone mode or in concert to provide for
a complete and comprehensive training for submarine crews.

Systems Simulators

Our
systems simulators provide a unique training device for the training of operators in
highly specialized operational tasks. Products delivered to our customers include the
LANTIRN simulator used to train pilots to fly with the LANTIRN pod, and our weapon systems
trainer used to train the weapon systems officer in the many tasks required to operate and
successfully deliver todays complex weapon to the designated target.

# Raw Materials

The
raw materials used for our on-board training systems and our embedded simulation systems
include our own software and commercial off-the-shelf (COTS) hardware that we purchase
from various suppliers. This COTS hardware includes computer boards, navigational systems,
communication systems and antennae. Due to the competitive nature of the market for these
COTS raw materials, the prices for such raw materials are not considered volatile. In some
countries, however, such raw materials are controlled items and thus, prior to export,
require the issuance of an export license.

The
following table sets forth, for the period indicated, our consolidated revenues by product
line, expressed as a percentage of total revenues.

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|                           | 2000 | 2001 | 2002 | 2003 | 2004
|-------------------------- | ---- | ---- | ---- | ---- | ----
|
|
|
|
|On Board Training Products |      |      |      | 79   | %   
|Simulators                 |      |      |      | 21   | %   
|Total                      |      |      |      | 100  | %   

# Strategic Relationships

Israel Aircraft
Industries Ltd.

From
1992 to 1997, we developed, manufactured and marketed the Ehud ACMI systems pursuant
to a joint venture agreement entered into in 1992 with MLM Systems Engineering &
Integration, a division of Israel Aircraft Industries Ltd., or IAI. Pursuant to
this agreement, IAI and us agreed to jointly develop, manufacture and market the
Ehud ACMI systems, with IAI subcontracting some of the manufacturing and integration
work with respect to the Ehud product. Following the expiration of the
agreements term, various claims were alleged by both IAI and us regarding each
others performance of obligations throughout the term of the agreement and
thereafter. In an ex parte proceeding filed by IAI, the District Court of Tel Aviv issued
in February 1999 a temporary injunction preventing us from replacing IAI as our
subcontractor in a project for the German Air Force.

In
August 1999, we entered into a cooperation agreement with IAI, which brought an end to
these legal proceedings and established terms for cooperation between the two companies
with respect to the marketing of the Ehud ACMI systems.

There
are still outstanding disagreements between IAI and us relating to projects performed
prior to entering into this agreement. Our agreement with IAI provides for a resolution
mechanism of such disputes, including by arbitration in case the parties cannot reach a
mutually agreed resolution.

The
cooperation agreement contemplates three basic types of business relationships:

| |  | Royalties
and Non-Competition Arrangement. The agreement provides for countries in which either
we or IAI shall not sell or market the Ehud ACMI. We undertook not to compete with
IAI in the majority of such countries. The party operating in each such country shall pay
to the party who undertook not to operate in such country royalties ranging from 4.75% to
12.5% of the contract price with respect to contracts executed in such countries during
the term of the cooperation agreement and two years, thereafter. The contract price for
the purposes of calculating the royalties includes maintenance and support contracts. In
addition, in one of the countries in which IAI undertook not to compete, rather than
actually paying royalties, we will pay IAI $60,000 for each pod and $100,000 for each
ground station we sold.
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

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| |  | Cooperation
Arrangement. IAI and we undertook to cooperate exclusively with each other in
specific countries in which either IAI or us will act as the prime contractor. Either IAI
or we will be in charge of, and responsible for, supplying that portion of such contract
as shall be decided by us and IAI. IAI and us will equally share in profit, which
for purposes of this allocation, has been defined as the expected profit from the project
(contract price minus projected cost regardless of actual costs).
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Royalties
and Competition. IAI and we have agreed that in specifically defined countries, each
will compete with the other only if such party is required to do so under existing
relationships with third parties. Both IAI and we will generally pay royalties to the
other in an amount ranging between 4% and 8% of a contract price with respect to
contracts executed during the term of the cooperation agreement and two years thereafter.
In one of the countries, rather than actually paying royalties, such contracting party
will pay the other $60,000 for each pod sold and $100,000 for each ground station sold.
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
cooperation agreement includes the following provisions:
| | ------------------------------------------------------------

| |  | IAI
and we have defined a mechanism to resolve outstanding financial and other disagreements
relating to the period prior to the execution of this agreement.
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | In
a few countries, either IAI and we may continue to work under pre-existing arrangements.
| | - | -------------------------------------------------------------------------------------------

| |  | In
the countries covered by our contract with Bodenseewerk Geraetetchnik GmbH, or BGT, IAI
will replace us as a subcontractor of BGT. In return, IAI will pay us royalties ranging
between 10% and 12.5%. With respect to existing projects in one of these countries, we
will remain the prime contractor and IAI will remain our subcontractor. Profits from
these projects are to be shared equally between IAI and us.
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | With
respect to countries not covered by the agreement, a joint committee will meet to
determine the specific business cooperation to be formed. If such joint committee does
not reach an agreement, the royalties and competition arrangement will apply, except that
the royalty rate will be 10%.
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

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| |  | IAI
and we each granted the other a license to use any patent or other intellectual property
right owned by the other relating to the Ehud ACMI systems, as is required to
enable such party to exercise its rights under the agreement. In addition, we agreed that
our trade name Ehud shall be owned jointly with IAI.
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

The
cooperation agreement was approved by the Israel Controller of Restrictive Trade Practices
and came into effect in September 1999; the agreement is valid for a seven year
period. As a result of this agreement, we will no longer be able to act as a prime
contractor or compete with IAI, as the case may be, with respect to the sale of Ehud
ACMI systems in some countries that accounted for a substantial percentage of our revenues
in the past.

# Other Strategic
Agreements

In
January 2004 and March 2003, we entered into a Memorandum of Understanding and a Teaming
Agreement with two United Kingdom-based companies, respectively, for cooperation in the
marketing and sales of our Naval training systems to the UK and another European country.

# Marketing

We
actively seek to identify and propose solutions for military training and simulation needs
of the current and prospective customers. Our research and development activities focus on
systems designed to meet specific needs we identified. We market our products, either as a
prime contractor or as a subcontractor, to various governments and defense contractors
throughout the world directly and through joint ventures, agents or representatives. We
have entered into cooperation agreements with a number of defense contractors, which
provide for joint participation in pursuit and performance of contracts in certain
countries.

In
June 1998, we formed a subsidiary in Singapore, BVR-S Pacific PTE, through which we
support our operations in Singapore.

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The
following table sets forth the amount of our revenues, for the periods indicated, by
geographic regions:

|             | Year Ended December 31,
|------------ | -----------------------
|
|
|
|
|Sales        |                        
|Israel       |                        
|             |                        
|Asia Pacific |                        
|Europe       |                        
|America      |                        
|Africa       |                        
|             |                        
|Total        |                        
|             |                        

# Customers

Currently,
all of the end-user customers of our products are governments or major defense companies
regulated by government agencies.

Although
the composition of our customers has changed from year to year, and revenues from
individual customers are subject to material increases and decreases depending on customer
requirements, a customer located in America accounted for approximately 34% of our
revenues in fiscal 2004 and 6% of our revenues in 2003, and represented approximately 13%
of our backlog. One of our customers located in Asia Pacific accounted for approximately
27% of our revenues in fiscal 2004, 58% of our revenues in fiscal 2003 and 41% of our
revenues in fiscal 2002, and represented approximately 12% of our backlog as of
December 31, 2004. A customer located in the Republic of Korea accounted for
approximately 7% of our revenues in fiscal 2004, 9% of our revenues in fiscal 2003 and 27%
of our revenues in fiscal 2002 and also represented approximately 2% of our backlog as of
December 31, 2004. The Italian Air Force accounted for approximately 12% of our revenues
in fiscal 2004, 6% of our revenues in fiscal 2003 and approximately 18% of our revenues in
fiscal 2002 and also represented approximately10% of our backlog as of December 31, 2004.
We expect that sales of our products to a small number of customers will continue to
account for a substantial percentage of our net revenue in the foreseeable future.

# General Financial
Considerations for Projects

A
significant majority of our contracts are fixed-price contracts, as opposed to
cost-plus-type contracts. Under fixed-price contracts, the price is generally not subject
to adjustment for costs actually incurred in the performance of such contract. Under such
fixed-price contracts, we assume the risk that increased or unexpected costs may reduce
our profits or generate a loss.

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There
are various types of financing terms applicable to defense contracts. In most cases, after
we receive advance payment at the commencement of a project, we receive progress or
milestone payments according to a percentage of cost incurred in performance or
achievement of a specific milestone. In these projects we are required to provide a bank
guarantee in an amount equal to the payments. In a majority of projects, we are required
to provide performance guarantees in an amount equal to a specific percentage of the
contract price. A portion of our agreements with customers contains clauses that impose
penalties or reduce the amount payable to us in the event that the completion of a phase
of work is delayed. We are generally responsible for the delays and defaults of our
subcontractors. Accordingly, we attempt to impose liability on our subcontractors on a
back-to-back basis when delay or default under a contract could expose us to
liability.

Our
contracts with governments generally may be terminated or suspended as a result of factors
which may not depend on us, such as a state of war, acts of God or other circumstances
seriously disrupting the public safety, peace or good order of the customers
country. Our contracts with non-governmental military contractors sometimes contain
similar provisions. In cases in which we receive advanced payments prior to incurring the
cost of fulfilling the contract, we realize a positive project cash flow. In the last
three years, we received substantial advances from our customers under a portion of our
contracts. In the event that a contract under which an advance or progress payment has
been paid is cancelled, we may be required to return a portion of such payments to the
customer. In general, in order to reduce risks of financial exposure resulting from an
early termination of a contract, we attempt to expend funds for projects in accordance
with the rate of performance. Upon such termination, we would, in most cases, be entitled
to reimbursement for incurred contract costs and to payment of a proportionate share of
our fee or profit for the portion of such contract that was actually performed. If,
however, we are not entitled to all or a portion of such compensation, our operations
would be adversely effected. In certain cases, when possible, we insure ourselves against
such risks.

# Manufacturing and
Suppliers

We
develop the majority of the software and hardware for our products at research and
development facilities in several locations in Israel. We manufacture cockpit replicas,
turret replicas and other hardware components and perform hardware integration, systems
assembly, and quality assurance testing at our manufacturing facilities in Ashdod, Israel.
We purchase components for the systems manufactured, including commercial computers,
integrated circuits, circuit boards, sheet metal fabricated into subassemblies and
cabinets, power supplies, television monitors and floppy disc drives. Many of the
purchased components are manufactured based on our designs and specifications. Most
materials and purchased components are generally available from a number of different
sources.

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# Competition

We
operate in a competitive environment with respect to most of our products. The defense
industry has been characterized in recent years by a consolidation of companies, which has
decreased the number, but increased the relative size and resources of competitors.
Competition is based on price, product performance, reputation, reliability, maintenance
costs and responsiveness to customer requirements, including the ability to respond to
changing technology. Some of the companies with which we compete, such as divisions of
Thales, Lockheed-Martin, L-3 Communications, Cubic, IAI (in some countries), Elbit Systems
and CAE, have substantially greater financial, marketing and other resources than ours and
have the ability to develop and market products competitive with ours. We believe that our
products favorably compete with those of our competitors based on their technological
capabilities, price/performance ratio, proven track record and common technological
platform. We also believe that our competitive advantage is in our relatively small size
that enables us to be more flexible and responsive to customer requirements than our
larger competitors. In addition, we typically have lower overhead costs than our larger
competitors.

# Research and Development

The
majority of our research and development activity is performed as an inherent part of our
various projects. In addition, we believe that continued and timely development of new
products and enhancements to existing products is necessary to compete effectively.
Accordingly, through our ongoing and extensive research, development and engineering
activities, we devote a portion of our resources to: (i) sustaining and upgrading our
existing products by improving serviceability and adding new capabilities and features,
(ii) decreasing the cost of owning and operating such products,
(iii) maintaining close relationships with our customers to identify their product
needs, (iv) developing new products with improved capabilities to address such needs
and other military training, debriefing and communications needs identified by us,
(v) adapting our products to new evolving technologies that can lower the costs of
our products; and (vi) tailoring our products to meet the specific needs of our
customers.

Our
internally financed expenditures for all research and development programs during fiscal
2004, 2003 and 2002 totaled approximately $0.3 million, $0.7 million and$1.6 million,
respectively, and represented 2%, 5% and 5% of our revenue, respectively. Royalty-bearing
grants received in the past from the Office of the Israeli Chief Scientist, or OCS, for
research and development were offset against our research and development costs. In fiscal
2004, 2003 and 2002, we did not receive any grants from the OCS. We expect that we will
continue to commit resources to research and development in the future

# Intellectual Property

In
order to protect our proprietary rights and technology used in our products, we rely
primarily upon a combination of patent, trademark and copyright law, trade secret
protection, confidentiality agreements and other contractual arrangements with our
employees, some of our affiliates, partners, customers and others.

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BVR-T
was granted five United States patents relating to the collision warning and the data link
features incorporated in our Ehud systems, the animation technology incorporated in
our simulators and our airborne avionics simulator technology. Several of these patents
were also granted or applied for in Israel and/or in specific countries in the European
Community and worldwide. As part of the reorganization plan that controlled our spin off
from BVR-T, BVR-T granted us co-ownership rights to all patents, pending patent
applications, trademarks and other intellectual property rights held by BVR-T with respect
of its defense-related business. See Item 7  Major Shareholders and Related
Party Transactions  B. Related Party Transactions  Relationship Between BVR-T
and Us. As of the date of this report, we own all the intellectual property rights,
including the rights to all patents, pending patent applications and trademarks, held by
BVR-T with respect to its defense-related business. In January 2003, BVR-T and us entered
into a technology transfer and assignment agreement pursuant to which we purchased from
BVR-T all rights, title and interest to all patents that were jointly owned by the
parties, in consideration for $12,000.

Our
trademark Atas, was registered in Israel, the European Community and Turkey.
Our trademark Ehud was recently registered in several Asian Pacific
countries and we have applied for its registration in Israel, the European Community and
several foreign countries.

As
part of our cooperation agreement with IAI, IAI and us each granted the other a license to
use all patents and other intellectual property rights owned by the other relating to the
Ehud ACMI system, as is required to enable such party to exercise its rights under
the cooperation agreement. We further agreed to jointly own with IAI the trade name
Ehud. See Item 4  Information on the Company  B. Business
Overview  Strategic Relationship.

We
also rely on unpatented proprietary know-how, copyrights and trade secrets, and employ
various methods, including confidentiality agreements with employees, consultants and
others, to protect our trade secrets and know-how. These methods, however, may not afford
complete protection and we cannot be sure that others will not independently develop our
trade secrets and know-how or obtain access thereto.

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

We are controlled by Chun Holdings L.P.,
which, assuming the exercise of its warrants to purchase 10,864,444 Ordinary Shares and
assuming no other exercise of our convertible securities, beneficially owns 64.89% of our
currently outstanding Ordinary Shares.

We
hold 100% of the outstanding capital stock of BVR-S Pacific PTE, which is incorporated
under the laws of Singapore.

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

Our
executive offices and research and development facilities are located in Rosh
Haayin, Israel. At this location, in 2004, we leased approximately 2,539 square
meters of office space at a monthly rent of approximately $19,580. This lease will expire
on September 14, 2009. See also Note 19B to our Consolidated Financial Statements.

We
lease approximately 875 square meters of manufacturing facilities in Ashdod, Israel for a
monthly rent of approximately $10,000. This lease will expire on October 31, 2007.

We
believe that our facilities are suitable and adequate for our operations as currently
conducted. In the event that additional facilities will be required, we believe that we
could obtain such facilities at commercially reasonable rates.

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

The
following discussion of our financial condition and results of operations should be read
in conjunction with the Consolidated Financial Statements and the related notes included
elsewhere in this annual report.This discussion contains forward-looking statements
that involve risks and uncertainties. Our actual results may differ materially from those
anticipated in these forward-looking statements as a result of certain factors, including,
but not limited to, those set forth in Item 3. Key Information D. Risk
Factors.

# General

We
are engaged in the development, manufacture and marketing of sophisticated training and
computer-based simulation systems for military applications.

Most
of our revenues are generated in U.S. Dollars, and a significant proportion of our
expenses is incurred in U.S. Dollars, or is linked to the U.S. Dollar. Consequently, we
use the U.S. Dollar as our functional currency. Transactions and balances originally
denominated in U.S. Dollars are presented in the financial statements in their original
amounts, and non-dollar transactions and balances have been translated into U.S. Dollars
using the exchange rates in effect on the date of a transaction or balance. Our
Consolidated Financial Statements have been prepared in accordance with Israeli GAAP.
Israeli GAAP, as applicable to our financial statements, differs in certain significant
respects from U.S. GAAP. See Note 24 to our Consolidated Financial Statements.

27

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The
financial statements of our subsidiary, the functional currency of which is the U.S.
Dollar, but which are reported in a currency other than U.S. Dollars, have been translated
into U.S. Dollars. Monetary balance sheet items have been translated using the exchange
rates in effect on the balance sheet date and all non-monetary balance sheet items have
been translated using the historical exchange rates in effect on the date of the
transaction. Statements of income items have been translated using the average exchange
rate for the period presented.

We
derive a substantial portion of our revenues from government contracts, the majority of
which are fixed-price, as opposed to cost-plus type contracts. Under fixed-price
contracts, the price is generally not subject to adjustment for costs actually incurred in
the performance of the contract.

In
most of our projects, we receive advance payment at the commencement of the project and
progress or milestone payments according to our performance or achievement of specific
milestones. In these cases, the advance payments that we receive prior to incurring the
cost of fulfilling the contract create a positive project cash flow. In the last three
years, we have received substantial advances from our customers under a portion of our
contracts. Our contracts generally may be terminated or suspended as a result of factors
which may not depend on us, such as a state of war, acts of God, or other circumstances
seriously disrupting the public safety, peace or good order of the customers
country. In the event that a contract under which an advance or progress payment has been
paid is canceled, we may be required to return such payments or portion of them to the
customer.

We
generally attempt to extend funds for projects in accordance with the rate of performance
in order to reduce risks of financial exposure resulting from an early termination of a
contract. Upon such termination, we would, in most cases, be entitled to reimbursement for
our incurred contract costs and to payment of a proportionate share of our fee or profit
for the work actually performed.

Revenues
related to work in progress under long-term contracts are recognized according to the
percentage-of-completion method. The percentage of completion is computed-based on the
projects total execution costs which reflect the progress of its completion, and
which include: salaries, material costs and subcontractor charges. Revenues ascribed to
each period are the amounts of gross profits earned on such contracts during such period
plus the costs incurred during such period (excluding cost of materials that have not yet
been used and costs incurred for subcontracted work that is still to be performed).

With
respect to the sale of products acquired from third parties as shelf products and where
the cost of adaptation thereof for a customers specific needs is not material, the
related revenue is recognized after completion and delivery. Provision for estimated
losses on uncompleted contracts are made in the period in which such losses are first
determined in the amount of the estimated loss on the entire contract. Royalty revenues
are generally recorded on a cash basis.

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In
October 2002, as part of our cost reduction measures, we implemented progressive marginal
salary reductions ranging from 2% to 12 % for all employees. Israeli law generally
requires that severance pay, for eligible employees, be based upon such employees
most recent salary rate. Nevertheless, we agreed with our eligible employees that the
severance pay for such employees shall be based upon such employees salary rates as
at the end of September 2002 with respect to the employment period ending in October 2002,
and upon the most recent salary rates with respect to any employment period thereafter. We
also agreed with our employees that these salary reductions shall be reversed should our
order backlog reach $45 million, commencing on such date.

In
August 1999, we entered into a cooperation agreement with IAI. As a result of the
cooperation agreement, IAI replaced us as the prime contractor for several projects in
which we acted as a prime contractor, and we became a subcontractor of IAI. As a
subcontractor, we do not record the full contract price as revenue, but only the amounts
we receive for the portion of the contract we supply and royalties to which we are
entitled. The aggregate contract price transferred to IAI is approximately $14.0 million,
divided over an average period of approximately three years. This transfer of contracts
negatively impacted our operating results in fiscal 2000, 2001 and 2002.

# Critical Accounting
Policies

The
preparation of our financial statements in conformity with the Israeli generally accepted
accounting principles, requires us to make estimates and assumptions that affect the
reported amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amount of revenues
and expenses during the reporting period. These are our managements best estimates
based on experience and historical data. Actual results could differ from those estimates.

Certain
specific accounting policies we utilize require higher degrees of judgment than others in
their application. These include going concern, revenue recognition on long-term contract
work and income taxes. In addition, Note 2 to our Consolidated Financial Statements
includes a further discussion of our significant accounting policies.

Going Concern

The
application of the going concern basis of accounting involves a range of subjective
judgments, principally in relation to the sufficiency of our resources to allow us to
continue to operate in the ordinary course and thereby realize our assets and discharge
our liabilities in the normal course of business for a period of 12 months following the
approval date of the consolidated financial statements. These resources are derived from
working capital, cash flow, volume of orders obtained, backlog of orders, existing cash
balances together with meeting forecasted cash flows from operating activities, as well as
obtaining orders forecasted in the budget.

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Revenue Recognition

We
account for our revenues on fixed price long-term contract work on the percentage of
completion method. This method of accounting requires us to calculate project profit to be
recognized in each reporting period for each project based upon our predictions of future
outcomes which include estimates of the total cost to complete (such as assumptions
relative to future labor performance and costs, materials costs and subcontractor charges)
and estimates of project schedule and completion date.

At
the onset of each contract, we prepare a detailed analysis of our estimated cost to
complete the project. Our project personnel evaluate the estimated costs at the project
level. Significant projects are reviewed in detail by senior management at least
quarterly.

Our
estimates of revenues and expenses on long-term contracts could change periodically in the
normal course of business. Such changes would be reflected in results of operations as a
change in accounting estimate in the period the revisions are determined. For all the
contracts, provisions for estimated losses on uncompleted individual contracts are made in
the period in which such losses are first determined, in the amount of the estimated loss
on the entire contract.

Income Taxes

As
part of the process of preparing our Consolidated Financial Statements we are required to
estimate our income taxes in each of the jurisdictions in which we operate. This process
requires us to estimate our actual current tax exposure and make an assessment of
temporary differences resulting from differing treatment of items, for tax and accounting
purposes. These differences result in deferred tax assets and liabilities, which are
included within our consolidated balance sheet. We must then assess the likelihood that
our deferred tax assets will be recovered from future taxable income and, to the extent we
believe that recovery is not likely, we must establish a valuation allowance. To the
extent that we establish a valuation allowance or increase this allowance in a period, we
must include an expense within the tax provision in the statement of operations.
Significant management judgment is required in determining our deferred tax assets and
liabilities and any valuation allowance recorded against our net deferred tax assets. We
recorded a valuation allowance of $12.9 million as of December 31, 2004, which is equal to
the value of the deferred tax asset consisting of our net operating loss carry-forwards.
This indicates our managements current assertion that because we are yet to generate
taxable income, we cannot determine whether it is likely that we will be able to use this
asset in the future. In the event that we generate taxable income in a particular
jurisdiction in which we operate and in which we have net operating loss carry-forwards,
we may be required to adjust our valuation allowance.

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|A. | Results
of Operations
|-- | ---------------------

The
table below sets forth, for the periods indicated, financial data, expressed as a
percentage of total revenues that we believe to be significant in analyzing our results of
operations. The data is as follows:

|                               | For Years Ended December 31,
|------------------------------ | ----------------------------
|
|
|
|
|Revenues                       |                             
|Cost of revenues               |                             
|Gross profit (loss)            |                             
|Research and development       |                             
|Selling, general and           |                             
|administrative expenses        |                             
|Operating profit (loss)        |                             
|Financing expenses, net        |                             
|Other expenses, net            |                             
|Loss before income taxes       |                             
|Income tax (expenses) benefits |                             
|Net Loss                       |                             

Our
order backlog as of December 31, 2004 was $19.4 million.

# Subsequent Events

For a summary of the events
subsequent to the balance sheet date, see:

| |  | "Item
4 - Information on the Company - B. Business Overview - Strategic Relationships"
| | - | --------------------------------------------------------------------------------------

| |  | "Item
5 - Operating and Financial Review and Prospects - General - Income Taxes"
| | - | --------------------------------------------------------------------------------

| |  | "Item
6 - Directors, Senior Management and Employees - B. Compensation"
| | - | -----------------------------------------------------------------------

| |  | "Item
7 - Major Shareholders and Related Party Transactions - B. Related Party Transactions"
| | - | --------------------------------------------------------------------------------------------

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# Year Ended December 31,
2004 Compared to Year Ended December 31, 2003

Revenues.

Revenues in fiscal 2004 were $12.7
million, a decrease of 12% compared to revenues of $14.5 million in fiscal 2003. The
decrease was primarily attributed to the fact that the majority of our orders in fiscal
2004 were received during the second half of fiscal 2004. Revenues from sales of our
instrumentation line of products in fiscal 2004 accounted for 55% compared to 46% of our
revenues in fiscal 2003. Revenues derived from our line of simulator products accounted
for 45% of our revenues in fiscal 2004 compared to 54% of our revenues in fiscal 2003. The
geographical breakdown of our revenues in fiscal 2004 was as follows: approximately 36% of
our revenues were in Asia Pacific, 21% in Europe, 36% in America and 7% in Israel. In
fiscal 2003, approximately 72% of our revenues were in Asia Pacific, 14% in Europe, 6% in
Latin America and 8% in Israel. The fluctuations in the proportion of our revenues
attributed to geographic areas are the result of the completion of several contracts which
we had with various countries. Our agreements are multi-year contracts and we generally
recognize revenues on a percentage of completion method, recognizing expenses when
incurred.

In fiscal 2004 , no income were
recorded from royalties and commissions, according to the Cooperation agreement with MLM,
since there are still outstanding disagreements between the parties. The resolving of
outstanding disagreements will not have additional implications on the financial results
or the Companys revenues.

Gross Profit (Loss).

Gross
profit in fiscal 2004 was approximately $2.4 million, an increase of $1.6 million, from a
gross profit of $0.8 million in fiscal 2003. As a percentage of revenues, gross profit
increased from a gross profit of 6% in fiscal 2003, to a gross profit of 19% in fiscal
2004. The increase in gross profit was primarily attributed to improved productivity
efficiency rates and meeting the contractual delivery schedule. Our gross profit is
influenced by various factors, such as the type and size of a project, and the portion of
projects performed by subcontractors.

Research and Development
Costs.

Gross
research and development expenditures consist primarily of salaries, subcontractors and
other personnel-related expenses related to design, development and enhancement of our
products and, to a lesser extent, depreciation and other expenditures. Gross research and
development expenses in fiscal 2004 were $0.3 million, a decrease of $0.4 million or 58%
from $0.7 million in fiscal 2003. The decrease in gross research and development expenses
was primarily attributed to the implementation of our general plan for reduced research
and development programs, increased efficiency, and expense reductions.

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Selling Expenses.

Selling
expenditures consist primarily of costs relating to payroll expenses, sales commissions,
subcontractors and consultants, travel expenses, demonstrations, exhibitions and
participation in trade shows. Net selling expenditures in fiscal 2004 were $1.1 million, a
decrease of $0.7 million, or 36%, from $1.8 million in fiscal 2003. The ongoing decrease
in selling expenses was primarily attributed to a decrease in consulting expenses, travel
expenses, the portion of the salaries of our personnel attributed to selling activities,
and focusing on our strategic markets, all of which were part of our general policy of
increased efficiency and expense reduction.

General and
Administrative Expenses.

General
and administrative expenses consist primarily of salaries and related costs of welfare and
administration, finance and general management personnel, professional fees, office,
vehicle, rental expenses and fees payable. General and administrative expenses in fiscal
2004 were $1.8 million, a decrease of $2.2 million, or 55%, from $4.0 million in fiscal
2003. The decrease in general and administrative expenses was primarily attributed to the
ongoing reduction in salaries due to downsizing administrative employees, cost reductions
of employee fringe benefits a reduction in allowance for doubtful accounts and in costs
relating to our subsidiary BVR-S Pacific PTE due to the reduction of its personnel. As a
percentage of revenues, general and administrative expenses in fiscal 2004 were
approximately 14% compared to 28% in fiscal 2003.

Operating Profit (loss).

As
a result of the foregoing, we had an operating loss of $(0.8) million in fiscal 2004
compared to an operating loss of $(5.6) million in fiscal 2003. As a percentage of
revenues, operating loss decreased from an operating loss of (39%) in fiscal 2003, to an
operating loss of (6%) in fiscal 2004.

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Financial Expenses, Net.

Financial
expenses, net consist primarily of interest paid on loans and bank charges, net of income
from interest earned on short-term deposits and interest on non-current receivables, gains
or losses from derivatives instruments and gains or losses arising from erosion of
monetary balances. Financial expenses, net in fiscal 2004 were approximately $ 0.5
million, a decrease of approximately $0.2 million from approximately $ 0.7 million in
fiscal 2003. The decrease was primarily attributed to a decrease in bank charges relating
to guarantees due to guarantee reductions and gains from derivative instruments, net of
losses from erosion of monetary balances.

Other Income (Expenses),
Net.

We
incurred net income from other sources of approximately $192,000 in fiscal 2004, compared
to approximately $55,000 net expenses in fiscal 2003. Other income consists primarily of
gain on the forgiveness of a long term loan from a former related party in fiscal
2004 and gain from sale of available for sale securities in fiscal 2003.

# Year Ended December 31,
2003 Compared to Year Ended December 31, 2002

Revenues.

Revenues
in fiscal 2003 were $14.5 million, a decrease of 49% compared to revenues of $28.3 million
in fiscal 2002. The decrease was primarily attributed to a decline in new orders during
fiscal 2003. Revenues from sales of our instrumentation line of products in fiscal 2003
accounted for 46% compared to 48% of our revenues in fiscal 2002. Revenues derived from
our line of simulator products accounted for 54% of our revenues in fiscal 2003 compared
with 52% of our revenues in fiscal 2002. The geographical breakdown of our revenues in
fiscal 2003 was as follows: approximately 72% of our revenues were in the Asia Pacific,
14% in Europe, 6% in Latin America and 8% in Israel. In fiscal 2002, approximately 68% of
our revenues were in the Asia Pacific, 28% in Europe, 2% in Africa and 2% in Israel. The
large decrease in the proportion of our revenues that were derived from sales to Europe is
the result of the completion of several contracts which we had with various countries in
Europe. Our agreements are multi-year contracts and we generally recognize revenues on a
percentage of completion method, recognizing expenses when incurred.

Gross Profit (Loss).

Gross
profit in fiscal 2003 was approximately $0.8 million, a decrease of $3.8 million, from a
gross profit of $4.6 million in fiscal 2002. As a percentage of revenues, gross profit
decreased from a gross profit of 16% in fiscal 2002, to a gross profit of 6% in fiscal
2003. The decrease in gross profit was primarily attributed to the decline in the number
of contracts and increased costs incurred resulting from the delayed completion of
specific contracts. We also had to deduct $0.5 million from recorded revenues resulting
from originally charging a specific customer for the provision of additional capacity to
the performance of a delivered system, the payment for which is currently uncertain.
Additionally, $0.9 million was deducted from the payment of one customer as a result of
delays in the delivery of a specific product. Our gross profit is influenced by various
factors, such as the type and size of a project, and the portion of projects performed by
subcontractors. See also Note 2 to the Consolidated Financial Statements.

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Research and Development
Costs.

Gross
research and development expenditures consist primarily of salaries, subcontractors and
other personnel-related expenses related to design, development and enhancement of our
products and, to a lesser extent, depreciation and other expenditures. Gross research and
development expenses in fiscal 2003 were $0.7 million, a decrease of $0.9 million, or 55%,
from $1.6 million in fiscal 2002. The decrease in gross research and development expenses
was primarily attributed to our general policy of increased efficiency and expense
reduction.

Selling Expenses.

Selling
expenditures consist primarily of costs relating to compensation costs, subcontractors and
consultants, travel expenses, demonstrations, exhibitions, participation in trade shows,
and customer support. Net selling expenditures in fiscal 2003 were $1.8 million, a
decrease of $0.6 million, or 25%, from $2.4 million in fiscal 2002. The decrease in
selling expenses was primarily attributed to a decrease in consulting expenses, a decrease
in travel expenses and a decrease in the portion of the salaries of our personnel
attributed to selling activities, all of which were part of our general policy of
increased efficiency and expense reduction.

General and
Administrative Expenses.

General
and administrative expenses consist primarily of salaries and related costs of welfare and
administration, finance and general management personnel, professional fees, provisions
for doubtful debt, office, vehicle, rental expenses, entertainment and travel expenditures
and fees payable. General and administrative expenses in fiscal 2003 were $4.0 million, a
decrease of $561,000, or 12%, from $4.6 million in fiscal 2002. The decrease in general
and administrative expenses was primarily attributed to the reduction in salaries due to
downsizing administrative employees, cost reductions of welfare and entertainment expenses
and a reduction in costs relating to our subsidiary BVR-S Pacific PTE due to the reduction
of its personnel. In addition, the decrease was also attributed to a new method of
allocation of indirect costs. As a percentage of revenues, general and administrative
expenses in fiscal 2003 were approximately 28% compared to 16% in fiscal 2002.

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Operating Profit (loss).

As
a result of the foregoing, we had an operating loss of $(5.6) million in fiscal 2003
compared to an operating loss of $(3.9) million in fiscal 2002. As a percentage of
revenues, operating loss increased from an operating loss of (14%) in fiscal 2002, to an
operating loss of (39%) in fiscal 2003.

Financial Expenses, Net.

Financial
expenses, net consist primarily of interest paid on loans and bank charges, net of income
from interest earned on short-term deposits and interest on non-current receivables, gains
or losses from derivatives instruments and gains or losses arising from erosion of
monetary balances. Financial expenses, net in fiscal 2003 were approximately $707,000, a
decrease of approximately $148,000 from approximately $855,000 in fiscal 2002. The
decrease was primarily attributed to a decrease in bank charges relating to guarantees due
to guarantee reductions and gains from derivative instruments, net of losses from erosion
of monetary balances.

Other Income (Expenses),
Net.

We
incurred net income from other sources of approximately $55,000 in fiscal 2003, compared
to approximately $140,000 net expenses in fiscal 2002. Other income (expenses) consists
primarily of gain from available for-sale securities and a write-down of investment in
available for-sale securities. This increase was primarily attributed to a gain from the
sale of available for-sale securities.

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

The
dollar cost of our operations is influenced by the extent to which inflation in Israel is
or is not offset, or is offset on a lagging basis, by the devaluation of the NIS in
relation to the dollar. When the rate of inflation in Israel exceeds the rate of
devaluation of the NIS against the dollar, companies experience increases in the dollar
cost of their operations in Israel. Unless offset by a devaluation of the NIS, inflation
in Israel will have a negative effect on our profitability, as we receive payment in
dollars or dollar-linked NIS for all of our sales, while we incur a portion of our
expenses in NIS.

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

|Year ended
December 31 | Israeli Inflation %
rate | NIS devaluation
rate % | Israeli inflation
Adjusted for
devaluation %
|---------------------- | ------------------------ | ---------------------- | --------------------------------------------
|
|
|
|
|2000                   |                          |                        |                                             
|2001                   |                          |                        |                                             
|2002                   |                          |                        |                                             
|2003                   |                          |                        |                                             
|2004                   |                          |                        |                                             

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A
devaluation of the NIS in relation to the dollar has the effect of reducing the dollar
amount of any of our expenses or liabilities payable in NIS, unless those expenses or
payables are linked to the dollar. This devaluation also has the effect of decreasing the
dollar value of any asset that consists of NIS or receivables payable in NIS, unless the
receivables are linked to the dollar. Conversely, any increase in the value of the NIS in
relation to the dollar has the effect of increasing the dollar value of any unlinked NIS
assets and the dollar amounts of any unlinked NIS liabilities and expenses.

Because
exchange rates between the NIS and the dollar fluctuate continuously, with a historically
declining trend in the value of the NIS, exchange rate fluctuations, particularly larger
periodic devaluations, will have an impact on our profitability and period-to-period
comparisons of our results.

We
are exposed to a variety of market risks, including changes in interest rates and foreign
currency fluctuations.

We
entered into currency future contracts and put and call options contracts to reduce our
exposure to fluctuations of specific currencies against the dollar, resulting primarily
from firm commitments in such currencies.

As
at December 31, 2004, we had an obligation to sell $250,000 for a total amount of NIS
1.094 million.

The
fair value of this derivative financial instrument amounted to a net asset of $3,000 as of
December 31, 2004 and was recorded as an asset in our balance sheet (as further set forth
in Note 7 to our Consolidated Financial Statements).

As
at December 31, 2004, we had an obligation to sell 750,000 for a total amount of
$971,000.

The
fair value of this derivative financial instrument amounted to a net liability of $20,000
as of December 31, 2004 and was recorded as a liability in our balance sheet (see Note 14
to our Consolidated Financial Statements, as part of Other Accrued Expenses and Accounts
Payable).

As
at December 31, 2004 and pursuant to a certain put option strategy signed in February
2003, we are subject to a put option for selling $0.8 million for NIS 3.6 million. This
put option completely expired in April 2005. The fair value of the derivative financial
instrument amounted to a net asset of $33,000 and was recorded as an asset in our balance
sheet (as further set forth in Note 7 to our Consolidated Financial Statements).

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# Political and Economic
Conditions.

Political Conditions.

Since
the establishment of the State of Israel in 1948, a number of armed conflicts have taken
place between Israel and its Arab neighbors, and the continued state of hostility, varying
in degree and intensity, has led to security and economic problems for Israel. Since
September 2000, the violence between Israel and the Palestinians has intensified and
a material escalation in violence has occurred. Israel has experienced terrorist incidents
within its borders, including in the West Bank and Gaza Strip. As a result, negotiations
between Israel and representatives of the Palestinian Authority ceased. We could be
adversely affected by hostilities involving Israel, the interruption or curtailment of
trade between Israel and its trading partners, or a continuous downturn in the economic or
financial condition of Israel. In addition, several countries continue to restrict
business with Israel and with companies having operations in Israel. We could be
negatively affected by further adverse developments in the peace process, including the
recent violence, or by restrictive laws or practices directed towards Israel or Israeli
exporters.

Like
all male adult citizens and permanent residents of Israel, our directors, officers and
employees who are under the age of 40, unless exempt, are obligated to perform up to 36
days of military reserve duty annually. Additionally, all such residents are subject to
being called to active duty at any time under emergency circumstances. The majority of our
officers and employees are currently obligated to perform annual reserve duty. No
assessment can be made as to the full impact of such requirements on our workforce or
business if conditions in Israel should change, and no prediction can be made as to the
effect of any expansion or reduction of such military obligations on us. See Item 4.
Information on the Company  B. Business Overview  Conditions in Israel.

Economic Conditions

Israels
economy has been subject to numerous destabilizing factors, including a period of rampant
inflation in the early to mid-1980s, low foreign exchange reserves, fluctuations in world
commodity prices, military conflicts and civil unrest. The Israeli Government has
intervened in various sectors of the economy by utilizing fiscal and monetary policies,
import duties, foreign currency restrictions and controls of wages, prices and foreign
currency exchange rates. The Israeli Government has periodically changed its policies in
all these areas.

# Effective Corporate Tax
Rate

On
June 29, 2004, the Israeli Knesset passed Income Tax Ordinance (No. 140 and Temporary
Order), 2004 (hereinafter  the Amendment). The Amendment provides for
gradual reduction of the tax rates for companies, from the rate of 36% to the rate of 30%,
in the following manner: in the 2004 tax year the tax rate will be 35%, in the 2005 tax
year the tax rate will be 34%, in the 2006 tax year the tax rate will be 32%, and in the
2007 tax year and thereafter the tax rate will be 30%.

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However,
our old manufacturing facilities in Jerusalem and our new facilities in Rosh Haayin
have been granted Approved Enterprise status under the Law for the
Encouragement of Capital Investments, 1959, as amended, known as the Investment Law.
Consequently, these facilities are eligible, subject to compliance with specified
requirements, for tax exemption for a period of two years and reduced tax rate of 25% for
an additional period of five years on our increased income, if any, commencing on the day
we derive taxable income from our facilities in Rosh Haayin. We may utilize such tax
benefits until 2016. The tax benefits under the Investment Law are not available with
respect to income derived from products manufactured outside of Israel. We expect to
derive a substantial portion of our income from our Approved Enterprise facility.

# Government Grants

The
Government of Israel, through the Office of the Chief Scientist, encourages research and
development projects which result in products for export. We may receive from the Office
of the Chief Scientist up to 50% of the research and development expenditures for
particular projects. We received in the past grants from the Office of the Chief Scientist
for the development of technologies related to our simulators. Pursuant to the terms of
these grants, we were obligated to pay royalties of 3% to 6% of revenues derived from
sales of products funded with these grants. We completed payment of all royalties due with
respect to the grants we received.

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

Historically
we have met our financial requirements primarily through the private sale of equity
securities, customer payments and advances and the utilization of bank credit lines. In
addition, capital raised by BVR-T in 1998 and 1997 was attributed proportionately to us in
accordance with the reorganization plan. As of December 31, 2004, we had cash and
cash equivalents of approximately $2.7 million and a positive working capital of
approximately $2.7 million.

On
March 1, 2004, we repaid a short-term loan amounting to $430,000 that was received from
Chun on December 3, 2003. The loan bore no interest.

As
of December 31, 2004, we had borrowed $1.6 million from banks from our available credit
lines.

Following
the approval of our shareholders at a meeting held on March 1, 2004, we sold Ordinary
Shares to a group of investors (including several pre-existing shareholders) at price per
share of $0.18 in the aggregate amount of approximately $11.9 million, of which 55,206,203
Ordinary Shares with an aggregate value of approximately $9.8 million were issued in
exchange for cash and 11,666,667 Ordinary Shares with an aggregate value of $2.1 million
were issued in exchange for the conversion of an aggregate of $2,000,000 of loans from
certain of our banks and a debt in the aggregate amount of $100,000 owed to two of our
existing shareholders.

39

---

---



During
the third quarter of 2004, Chun exercised 17,666,667 options into Ordinary Shares in
consideration for $3.2 million.

On
April 20, 2004, we reached an agreement with a former related party for the repayment of
$204,000 out of an outstanding loan amount ing to $381,000 resulting in the forgiveness of
a debt amounting to $177,000.

Pursuant
to these transactions, the banks agreed to postpone repayment of $1.5 million in
short-term credit, such that $0.5 million is repayable in each of the years 2005, 2006 and
2007.

There
are no restrictions as to our use of the credit lines with our banks. The banks may
terminate our credit lines at any time, and the banks may demand repayment in full of any
indebtedness then outstanding.

In
addition, we have obtained bank guarantees to secure our performance of certain
obligations, including under our leases and contracts with customers. Of these guarantees,
which amounted to an aggregate of $16.6 million on December 31, 2004, guarantees in an
aggregate of $16 million are to be released by our obtaining specific performance
milestones, which are scheduled to be completed through the end of 2008.

In
connection with our guarantees, loans and credit lines from banks, we have placed equally
ranking, first priority fixed and floating liens on all of our assets.

Our
operating cash flow is influenced by cash provided from our customers as an advance and by
cash used in the performance of ongoing projects. Operating activities for the year 2004,
2003 and 2002, provided (or used) cash of approximately ($1.9) million, $ 0.5 million and
($3.1) million, respectively. For fiscal 2004, cash provided from changes in assets
and liabilities of $0.9 million primarily consisted of a decrease in trade payable of
$1.06 million. Additionally, there was a decrease in non-current receivables of $0.5
million, net of a decrease in trade payables of $(1.06) million, a decrease in inventory
of $0.16 million and a decrease in other payables and accrued expenses of $0.3 million.

For
fiscal 2003, cash provided from changes in assets and liabilities of $6.5 million
primarily consisted of a decrease in trade receivables of $11.6 million due to collection
of payments and due to a reduction in contracts performed compared to 2002 and 2001. Such
changes in assets and liabilities also consisted of an increase in excess of advances from
customers over amount recognized as revenue of $2.3 million. Additionally, there was a
decrease in non-current receivables of $0.5 million, net of a decrease in trade payables
of $5.2 million, an increase in inventory of $1.8 million and a decrease in other payables
and accrued expenses of $1.2 million.

40

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For
fiscal 2002, cash provided from changes in assets and liabilities of $1.4 million
primarily consisted of a decrease in trade receivables of $4.4 million and a decrease in
non-current receivables of $0.5 million, net of a decrease in excess of advances from
customers over amount recognized as revenues of $2.6 million, an increase in inventory of
$0.4 million and an increase in work in progress of $0.3 million.

Investing
activities for fiscal 2004, fiscal 2003 and fiscal 2002 provided (or used) cash of
approximately $(2.7) million, $4.2 million and $(0.5) million, respectively.

Cash
flows used in investing activities in fiscal 2004 consisted primarily of an increase in
restricted bank deposits of $2.6 million and purchase of fixed assets in the amount of
$113,000. The increase in restricted bank deposits was due to an increase in advance
payment and performance guarantees.

Cash
flows provided by investing activities in fiscal 2003 consisted primarily of a decrease in
restricted bank deposits of $4.3 million and net purchase of fixed assets in the amount of
$171,000. The decrease in restricted bank deposits was due to a reduction in advance
payment guarantees.

Cash
flows used in investing activities in fiscal 2002 consisted primarily of the purchase of
fixed assets in the amount of $535,000.

Financing
activities for fiscal 2004, fiscal 2003 and fiscal 2002 provided (or used) cash of
approximately $5.7 million, $(3.9) million and $3.1 million, respectively.

Cash
flows provided by financing activities in fiscal 2004 consisted primarily of the issuance
of Ordinary Shares in consideration for $9.7 million, the exercise of $3.1 million in
stock options and the net repayments of $6.6 million, $0.4 million and $0.2 million,
respectively, with respect to a short-term bank credit, a short-term loan from Chunand
long-term loans from former shareholders.

Cash
flows used in financing activities in fiscal 2003 consisted primarily of a net repayment
of short-term bank credit of $5.0 million net of receipt of the short-term loan from Chun
of $0.4 million and receipt of long-term loans from former shareholders of $0.6 million.

Cash
flows provided by financing activities in fiscal 2002 consisted of receipt of $3.1 million
in short-term bank credit.

Our
current assets exceed our current liabilities. We believe that the existing cash balances
together with meeting forecasted cash flows from operating activities for 2005, as well as
obtaining orders forecasted in the budget approved by the Board of Directors will be
sufficient to meet our present working capital and capital expenditure needs.

41

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

See
"Item 4 - Information on the Company - B. Business Overview - Research and Development;
Intellectual Property."

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

Periodic Variations in Operating Results

Due
to the nature of our customers and products, our sales are often made pursuant to a
relatively small number of customers and large orders. Consequently, an individual project
from an individual customer can represent a substantial portion of our revenues in any one
period. In addition, a significant project for any customer during one period may not be
followed by further projects for the same customer in subsequent periods. Our sales and
operating results may, therefore, vary substantially from period to period. In 2003, we
experienced a significant increase in orders from Latin American countries. This would
appear to be the result of our having invested substantial amounts of our time and
resources from 2001, in developing a market that we believe to have significant commercial
potential. In 2004, we successfully entered into a significant contract with a Portuguese
entity pursuant to diligent marketing efforts.

# Reduction in Order
Backlog

Our
business is subject to the effect of general economic conditions globally, and, in
particular, conditions in the market for simulation systems for military and civilian
applications. In recent quarters, our sales efforts have been adversely affected as a
result of unfavorable economic conditions and reduced capital spending in Asia Pacific
where we have lately derived and anticipate continuing to derive a material portion of our
revenues. For example, we were informed by one of our customers that due to the suspension
of its budget, that customer decided not to proceed with a planned project in which we had
expected to participate. As of December 31, 2004,we had purchase orders and
contractual arrangements of approximately $19.4 million compared to a backlog of $19.7
million as of December 31, 2003. A further decline in our backlog level could result in
more variability and less predictability in our quarter-to-quarter net sales.

# Delay in the Receipt of
Required Export Approvals

We
purchase from manufacturers in the United States substantially all of the commercial
computers, a portion of the air combat maneuvering instrumentation pods hardware and
other off-the-shelf products, such as navigation systems, which we incorporate
into our products. The export of such components is subject to the approval of the United
States Department of Commerce and/or the United States Department of Defense, which often
restricts sales to certain countries. Since the events of September 11, 2001, the United
States has imposed a longer bureaucratic process on the provision of approvals and has
attached more stringent conditions; consequently, we have experienced delays in the
receipt of such required approvals.

42

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

We
do not have any Off-Balance Sheet Arrangements.

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

Our
significant financial and contractual obligations as of December 31, 2004, and the
periods in which such obligations are due are as follows:

|                             | Payments and Amount of Commitment Expiration Per Period(U.S. Dollars in Thousands)
|---------------------------- | ----------------------------------------------------------------------------------
|
|
|
|
|Borrowed Lines of credit(2)  |                                                                                   
|Guarantees:                  |                                                                                   
|Performance guarantees       |                                                                                   
|                             |                                                                                   
|Advance payment guarantees   |                                                                                   
|                             |                                                                                   
|Other bank guarantees        |                                                                                   
|                             |                                                                                   
|Total Guarantees             |                                                                                   
|                             |                                                                                   
|Operating lease commitments  |                                                                                   
|                             |                                                                                   
|Total commercial commitments |                                                                                   
|                             |                                                                                   

(1)  Excludes
liability for employee severance benefits, net in the amount of           $69,000.

(2)           Following the approval
of our shareholders at a meeting held on March 1, 2004,           we sold 66,872,670
Ordinary Shares to the investors who participated in the           investment round that
took place between March 2004 and June 2004 at price per           share of $0.18 in the
aggregate amount of approximately $11.9 million, of which           55,206,003 Ordinary
Shares with an aggregate value of approximately $9.8 million           were issued in
exchange for cash and 11,666,667 Ordinary Shares with an           aggregate value of
$2.1 million were issued in exchange for the conversion of an           aggregate of
$2,000,000 of loans from certain of our banks and a debt in the           aggregate
amount of $100,000 owed to two of our existing shareholders. In           addition, the
banks agreed to postpone repayment of short-term credit, in the           amount $0.5
million to 2005, $0.5 to 2006 and $0.5 million to 2007. The Company           also
received a credit line from Chun, in the amount $3.2 million.

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

| | Not
applicable.
| | ---------------

43

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

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

The
following table lists the name, age and position held by each of our executive officers
and directors, as of May 31, 2005:

|Name             | Age | Position                                                     
|---------------- | --- | -------------------------------------------------------------
|
|
|
|
|Aviv Tzidon      | 49  | Director and Chairman of the Board of Directors              
|Yaron Sheinman   | 51  | Director                                                     
|Avi Leumi        | 41  | Director                                                     
|Uri Manor        | 62  | Director                                                     
|Eric Chan        | 46  | Director                                                     
|Rimon Ben-Shaoul | 60  | Director                                                     
|Gadi Aviram      | 50  | Director                                                     
|Orit Stav        | 34  | Director*                                                    
|Amnon Harari     | 54  | Director*                                                    
|Ilan Gillies     | 36  | Chief Executive Officer                                      
|Reuven Shahar    | 46  | Vice President of Finance and Chief Financial Officer        
|Dekel Tzidon     | 45  | Vice President of Development and Chief Technological Officer
|Gilad Yavets     | 35  | Vice President of Marketing                                  

---

* External Director

Aviv
Tzidon has been our Director and Chairman of the Board of Directors since
November 24, 2003. Mr. Tzidon was the co-founder of BVR Technologies Ltd. (or BVR-T) and
served as its Chief Technology Officer and a Director since it commenced operations in
1987. From October 1998, upon the spin-off of BVR Systems (1998) Ltd. from BVR-T, and
until April 2000, Mr. Tzidon served as Chairman of the Board of Directors and Chief
Executive Officer of BVR-T. For three years, Mr. Tzidon worked as an independent
consultant for Israel Aircraft Industries. Mr. Tzidon served as a combat pilot with the
Israel Air Force (including reserve service) for approximately 20 years.

Yaron
Sheinman has been our Director since the consummation of our spin-off in
October 1998. He is a founder and Chairman of the Board of Directors of BVR-T. From the
commencement of BVR-Ts operations in 1987 through 1996, Mr. Sheinman served as the
chairman and chief executive officer of BVR-T. Previously, he acted as an independent
consultant to Israel Aircraft Industries for two years for the development of avionics
systems. Mr. Sheinman served as a combat pilot with the Israel Air Force (including
reserve service) for approximately 15 years. Mr. Sheinman also served as chairman of the
board of directors of Nexus Telocation Systems, VIZ, Coresma Unisfair and BrightCom.

44

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Avi
Leumi has been our Director since March 1, 2004. Mr. Leumi has served as
CEO, Co-Founder and Chairman of the Board of Directors of Aeronautics Defense Systems Ltd.
since November 1997. From 1992 to 1997, Mr. Leumi served as CEO of Leumi Chemicals Ltd.
(family owned business). Mr. Leumi is a graduate of the Israel Naval Academy.

Uri
Manor has been our Director since March 1, 2004. Mr. Manor has served as
Managing Director of Datus Ltd., a consulting company specializing in the marketing of
defense systems since January 1, 1996 and Managing Director of Loven Hachatzav Ltd., a
holding company specializing in high tech and defense companies since 2001. Mr. Manor is
also a member of the board of directors of Soltam Systems, Fibrotex International and
Aeronautics Defense Systems. Moreover, Mr. Manor represents Hindustan Aeronautics Limited
in Israel. From 1969 to 1996, Mr. Manor held various management positions in Israel
Aircraft Industries Ltd. including Deputy General Manager, MBT Division. Mr. Manor holds a
B.Sc (1965) and M.Sc (1971) in Aeronautical Engineering from the Technion (Israel
Institute of Technology).

Eric
Chan has been our Director since March 1, 2004. On November 10, 2003, Mr.
Chan was appointed General Manager of ST training & Simulation or STTS. Between the
years 1999 and 2003, Mr. Chan held various management positions in CET Technologies (a
subsidiary of ST Elect) including Vice President of Defense Business and Deputy General
Manager. In 1997, Mr. Chan served as Division Manager of Land Systems Division of
Singapore Engineering Software (a subsidiary of ST Elect) where he was instrumental in
winning the large-scale island-wide Police C2 program from Singapores Ministry of
Home Affairs. Mr. Chan currently serves as the Chairman of the Board of iVLab (a
subsidiary of STTS), the Alternate Director of Prescient Systems & Technologies and
Director of a number of companies including Knowledge Alive and ST Education &
Training. Mr. Chan holds a BSc Eng (2nd Honors) from the National University of
Singapore.

Rimon
Ben-Shaoul has been our Director since March 1, 2004. Since February 2001,
Mr. Ben-Shaoul has served as Co-Chairman, President and Chief Executive officer of Koonras
Technologies Ltd., an investment company controlled by Polar Investments Ltd. From June
1997 to February 2001, Mr. Ben-Shaoul served as President and Chief Executive Officer of
Clal Industries and Investments Ltd. (one of Israels largest holding companies in
the industrial and high-tech sectors) and as a member of the board of directors of Clal
(Israel) Ltd. and various subsidiaries thereof. From 1985 to June 1997, Mr. Ben-Shaoul
served as President and Chief Executive Officer of Clal Insurance Company Ltd., was a
member of its board of directors and served as Chairman or as a member of the board of
directors of various subsidiaries of Clal Insurance Company Ltd. Mr. Ben-Shaoul holds an
MBA, Tel-Aviv University (1973) and BA in Economics, Tel-Aviv University (1970).

Gadi
Aviram has been our Director since March 1, 2004. Mr. Aviram is the founder
and Chief Executive Officer of Metro Motor Marketing Ltd. (importer and representative of
Kawasaki Heavy Industries). From 2000 to 2002, Mr. Aviram served as director of Safecom
Car Communication Ltd. and from 1999 to 2000, Mr. Aviram served as director of Pointer
(Eden Telecom Group) Ltd.

45

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Orit
Stav has been one of our external directors since March 1, 2004. Ms. Stav
is a partner in Platinum Neurone Ventures (PNV), an Israeli Venture Capital Fund with $110
million under management and 20 portfolio companies. Her responsibilities include leading
new investments, advising portfolio companies on financial, operational, and strategic
issues. Prior to her position at PNV, Ms. Stav was a partner in Neurone Ventures where she
gained experience in analyzing start-up companies, led financing rounds in more than 10
companies, negotiated term sheets and final investment documents, dealt with all facets of
founders and management teams and served as a director in several of the portfolio
companies. Ms. Stav holds a BA in Economics and Management from Tel Aviv University and an
MBA from Hertfordshire University, UK.

Amnon
Harari has been one of our external directors since July 2002. Mr. Harari
currently serves as the chief executive officer of Advanced Heating Technologies Ltd. From
May 2000 to March2002, Mr. Harari served as Chief Executive Officer of Partner
Future Communication Ltd. From April1999 to April2000, Mr. Harari served
as General Manager of Alcatel Israel. From April1997 to April1999, Mr.
Harari served as Corporate Vice-President and General Manager of the Public Switching
Division of Tadiran Telecommunication Ltd. From 1992 to 1996, Mr. Harari served as the
head of the Israel Air Force Material Directorate. From February1997 to February
2002, Mr. Harari served as an External Director of Elbit Systems Ltd. Mr. Harari is a
Brigadier-General in the Israel Air Force. Mr. Harari holds a B.Sc. in Physics from the
Tel Aviv University.

Ilan
Gillies has been Chief Executive Officer since his appointment on November
26, 2003. Mr. Gillies has been employed by the BVR Group since 1995 and served as Managing
Director of BVR S Pacific from November1998 to September 2003. Mr. Gillies has served as a
combat pilot with the Israel Air Force since 1989.

Reuven
Shaharhas been our Chief Financial Officer and Vice President of Finance
since his appointment on July 1, 2000. From 1995 through June 2000, he was Treasurer,
Director of Finance of Elisra Electronic Systems Ltd. From 1990 to 1995, Mr. Shahar was
the head of the economic staff in the defense division of Elisra. He previously held
various positions at Elisra commencing in 1984. Mr. Shahar holds a BA in business
management from the Hebrew University of Jerusalem and an MBA from Recanati Graduate
School of Business Administration in Tel Aviv University.

Dekel
Tzidon has been our Chief Technology Officer and Vice President,
development since January 1, 2004. From 1995 to 1997, Mr. Tzidon was employed by RTSET as
an R & D engineer and IP manager. In 1997 Mr. Tzidon joined BVR as a senior systems
engineer, IP manager and head of the technology group. In 2001, Mr. Tzidon served as a
senior systems engineer in COMVIEW. Since 2002, Mr. Tzidon has been employed as an IP
consultant for a number of Hi-Tech companies including BVR. Mr Tzidon has a B.Sc. in
computer engineering. Mr. Tzidon is the brother of Mr. Aviv Tzidon, the Chairman of our
Board of Directors.

46

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---



Gilad
Yavetshas been our Vice President of Marketing since March 3, 2004. Mr
Yavets joined BVR in 1997 and has served in different positions in the company, including
Contracts Director, Director of Business Development and Acting Vice President of
Marketing. Mr. Yavets holds an LLB in law from the Hebrew University of Jerusalem and an
Executive MBA from the Recanti Graduate School of Business Administration in Tel-Aviv
University.

Resignation of Directors
and Officers

The
following directors resigned from our board of directors during 2004 and 2005:

| |  | Mr.
Pritam Singh resigned on July 1, 2004.
| | - | ------------------------------------------

No
officer resigned from our company during 2004 and 2005.

Expiration of Term of
Office

No
term of our external director has expired, in accordance with the provisions of the Israel
Companies Law  1999, as amended from time to time (the Companies Law).

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

The
aggregate remuneration we paid for the year ended December 31, 2004 to all executive
officers as a group (4 persons) was approximately $306,000 in salaries, fees, commissions
and bonuses. This amount includes approximately $51,000 set aside or accrued to provide
for pension, retirement or similar benefits provided to our directors and executive
officers (this sum includes compensation paid to our two executive officers who resigned
in 2003).

Members
of our board of directors, other than our external directors, do not receive cash
compensation for their service on the board of directors or any committee of the board of
directors. However, all of our directors are reimbursed for their expenses for each board
of directors meeting attended. Our external directors received an aggregate of
approximately $11,500 for the year ended December 31, 2004.

At
the meeting of our shareholders held on March 1, 2004, a special majority of our
shareholders who voted at that meeting, approved the grant of an option to purchase 72,000
of our Ordinary Shares to each of our nine directors serving on our Board of Directors at
the time, with the exception of Aviv Tzidon, the Chairman of our Board of Directors. The
options vested with the following Directors upon their completion of one full year of
service on our board following the March 1, 2004 shareholders meeting: (Yaron Sheinman,
Avi Leumi, Uri Manor, Eric Chan, Gadi Aviram, Rimon Ben-Shaoul, Orit Stav and Amnon
Harari)] and will be exercisable at a price of $0.18 per share for a period of three
years.

47

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At
the meeting of our shareholders held on March 1, 2004, a majority of our shareholders who
voted at that meeting, also approved the grant of an option to purchase 9,000,000 of our
Ordinary Shares to Mr. Aviv Zidon. One fifth of the options will vest upon the completion
of each full year of service on our board, which commenced on November 24, 2003, for a
period of five years and will be exercisable at a price of $0.18 per share for a period of
three years.

Taking
into account the option grants described in the preceding two paragraphs above, as of
March 31, 2004, options to purchase 10,753,136 Ordinary Shares granted to our
directors and executive officers under our option plans were outstanding. The weighted
average exercise price of these options was $0.22 per share. Of these options, options to
purchase 103,136 Ordinary Shares are currently exercisable or will become exercisable
within 60 days of such date.

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

Our
articles of association provide for a board of directors of not less than two and no more
than fifteen members. Each director is elected to serve until the next annual general
meeting of shareholders and until his or her successor has been elected. Officers serve at
the discretion of the board of directors. The Israeli Companies Law, which entered into
effect on February 1, 2000 and was amended most recently in March 2005, requires the board
of directors of a public company to determine the number of directors who shall possess
accounting and financial expertise. This requirement is subject to, and will only enter
into effect upon, the promulgation of regulations by the Israeli Minister of Justice which
have not yet been published. The board of directors must make such determination by no
later than 90 days following publication of such regulations.

Our
articles of association provide that any director may, by written notice, appoint another
person to serve as a substitute director and may cancel such appointment. According to the
Companies Law, a person may not serve as a substitute director for more than one director
and a director may not serve as a substitute director. 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 provides otherwise, and the
right to remuneration. Appointment of a substitute director for a member of a committee of
the board of directors is only permitted if the substitute is a member of the board of
directors and does not regularly serve as a member of such committee. If the committee
member being substituted is an external director, such substitute may only be another
external director possessing the same expertise as the external director being substituted
and may not be a regular member of such committee. Unless the time period or scope of any
appointment is limited by the appointing director, 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 has appointed any other person as a substitute
director.

48

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# External Directors

Under
the Companies Law, companies incorporated under the laws of Israel whose shares have been
offered to the public in or outside of Israel are required to appoint no less than two
external directors. The Companies Law provides that a person may not be appointed as an
external director if the person or the persons relative, partner, employer or any
entity under the persons control, has, as of the date of the persons
appointment to serve as external director, or had, during the two years preceding that
date, any affiliation with the company, any entity controlling the company or any entity
controlled by the company or by this controlling entity. 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 can serve as an external director if the persons position or other business
creates, or may create, conflict of interests with the persons responsibilities as
an external director. A person shall be qualified to serve as an external director only if
he or she possesses accounting and financial expertise or professional qualifications. At
least one external director must posses accounting and financial expertise. These
requirements and the criteria for accounting and financial expertise or professional
qualifications are subject to promulgation of regulations by the Israeli Minister of
Justice in consultation with the Israeli Securities Authority. Such regulations have not
yet been published. In addition, these requirements do not apply to external directors
appointed before the recent amendment to the Companies Law but will apply to their
reappointment for an additional term. Until the lapse of two years from termination of
office, a company may not engage an external director to serve as an office holder and
cannot employ or receive services from that person, either directly or indirectly,
including through a corporation controlled by that person. External directors are to be
elected by a majority vote at a shareholders meeting, provided that either:

| |  | the
total number of votes for the appointment of the external directors shall include the
votes of at least one third of the shares represented at the meeting in person or by
proxy, which are not held by controlling shareholders of the company; or
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

49

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| |  | the
total number of votes against the appointment of the external directors, among the
non-controlling shareholders of the company, shall not exceed 1% of the aggregate voting
rights in the company .
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

When
counting the votes of the non-controlling shareholders, abstentions are not to be included
in such calculations.

An
external director is entitled to compensation as provided in regulations promulgated under
the Companies Law and is otherwise prohibited from receiving any compensation, directly or
indirectly, in connection with services provided as an external director. We compensate
our two external directors in accordance with regulations promulgated under the Companies
Law.

The
initial term of an external director is three years and may be extended for an additional
three years. Each committee of a companys board of directors, which exercises board
powers, is required to include at least one external director. However, the audit
committee should include all the external directors.

Pursuant
to the decisions of the Special General Meetings dated July 9, 2002 and March 1, 2004,
respectively, Amnon Harari and Orit Stav were each appointed as external directors of the
Company for a three-year term.

# Exculpation, Insurance
and Indemnification of Directors and Officers

Under
the Companies Law, an Israeli company may not exempt an office holder from liability with
respect to a breach of his duty of loyalty, but may exempt in advance an office holder
from his liability to the company, in whole or in part, with respect to a breach of his
duty of care, provided, that the company is so permitted under its articles of
association. The breach of such duty is governed by Israeli contract laws.

Office Holder Insurance

Our
articles of association provide that, subject to the provisions of the law, we may enter
into a contract for the insurance of the liability of any of our office holders with
respect to:

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

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

| |  | a
financial liability imposed upon him in favor of another person concerning an act
performed by him in his capacity as an office holder.
| | - | -----------------------------------------------------------------------------------------------------------------------------------------

50

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Indemnification of Office
Holders

Our
articles of association provide that we may indemnify an office holder against:

| |  | a
financial liability imposed on him in favor of another person by any judgment, including
a settlement or an arbitrators award approved by a court concerning an act
performed in his capacity as an office holder; and
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | reasonable
litigation expenses, including attorneys fees, expended by the office holder or
charged to him by a court, in proceedings we institute against him or instituted on our
behalf or by another person, or in a criminal charge from which he was acquitted, or a
criminal charge in which he was convicted for a criminal offense that does not require
proof of intent, in each case relating to an act performed in his capacity as an office
holder.
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Under
the Companies Law, these provisions are subject to shareholder approval.

Limitations on Insurance
and Indemnification

The
Companies Law provides that a company may not indemnify an office holder nor enter into an
insurance contract which would provide coverage for any monetary liability incurred as a
result of any of the following:

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

| |  | a
breach by the office holder of his duty of care if the breach was done intentionally or
recklessly;
| | - | -----------------------------------------------------------------------------------------------------

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

| |  | any
fine levied against the office holder.
| | - | ------------------------------------------

In
addition, under the Companies Law, indemnification of, and procurement of insurance
coverage for, our office holders must be approved by our Audit Committee and our Board of
Directors and, in specified circumstances, by our shareholders.

We
have obtained directors and officers liability insurance.

51

---

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# Audit Committee

Under
the Companies Law, the board of directors of any public company, as defined by the
Companies Law, must appoint an audit committee comprised of at least three directors,
including all of the external directors, but excluding the chairman of the board of
directors, the general manager, the chief executive officer and a controlling shareholder
or its relative and any director employed by the company or who provides services to the
company on a regular basis. Following the expiration of Ms. Bruria Lekners term as
our external director and the resignation of Itzhak Gat, Yaron Sheinman, Amnon Harari and
Orit Stav were appointed to serve as members of our Audit Committee. Orit Stav is the
financial expert of the Committee.

The
role of the audit committee is to examine flaws in the companys business management,
in consultation with its internal auditor and independent accountants, and suggest
appropriate courses of action.

In
addition, the approval of the audit committee is required to effect specified actions and
transactions with office holders and interested parties. An interested party is defined in
the Companies Law as a 5% or greater shareholder, any person or entity who has the right
to designate one or more directors or the general manager of the company or any person who
serves as a director or as a general manager. An audit committee may not approve an action
or a transaction with an interested party or with an office holder unless at the time of
approval the two external directors are serving as members of the audit committee and at
least one external director was present at the meeting in which such approval was granted.

# Management Employment
Agreements

We
have entered into employment agreements with each of our executive officers. These
agreements contain various provisions, including provisions relating to assignment of
intellectual property rights to us and confidentiality and are in effect until terminated
by either party upon advance notice or otherwise in accordance with the terms of the
particular agreement. All of these agreements also contain non-competition provisions.
Under the Companies Law, in a public company, as defined in the Companies Law, the chief
executive officer may not serve as the companys chairman of the board. However, the
shareholders of the company may approve the service of the chairman of the board also as
the chief executive officer, for periods of up to three years each, provided, that at
least two-thirds of the votes of non-controlling shareholders present and voting at the
meeting vote affirmatively.

52

---

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# Employee Share Option
Plans

We
have three employee stock option plans. Options granted under our option plans generally
vest over a period of two to five years. Options granted under each plan expire four, five
or nine years from the date of grant. Our share option plans are administered by our Board
of Directors. All of our employees are eligible to participate in our option plans. Our
board of directors has complete discretion to make all decisions relating to the
interpretation and operation of our option plans, including the discretion to determine
which eligible individuals are to receive an award, and to determine the type, number,
vesting requirements and other features and conditions of each award.

On
January 4, 2004, our board of directors adopted a new share option plan under which
5,000,000 options for the purchase of 5,000,000 Ordinary Shares of the Company may be
granted to our employees and consultants. Under this plan, as of March 31, 2005, 4,775,000
options were granted to employees and consultants of the Company, at an exercise price of
$0.18 each. These options will vest over 5 years with one-fifth vesting each year and each
increment expiring 3 years after vesting.

As
of March 31, 2005, we granted a total of 6,145,000 options to purchase 6,145,500
Ordinary Shares of the Company. Moreover, as of March 31, 2005, an additional 162,636
Ordinary Shares of the Company were reserved for issuance pursuant to options issuable
under our share option plans.

53

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

The
following table sets forth for the last three fiscal years, the number of our employees
engaged in the specified activities:

|                                      | Year ended December 31,
|------------------------------------- | -----------------------
|
|
|
|
|Production & Research and Development |                        
|Marketing and sales                   |                        
|Administration and management         |                        
|                                      |                        
|Total                                 |                        
|                                      |                        

As
of May 31, 2005, we employed approximately 56 employees in research and development
operations and productions, both internally financed and pursuant to contracts with our
customers performed an integral role in our various projects.

Our
employees who have access to proprietary information are required to sign a nondisclosure
agreement covering all of our proprietary information which they might possess or to which
they might have access. We believe that we have satisfactory labor relations with our
employees and have never experienced a work stoppage.

We
are subject to labor laws and regulations in Israel. We and our Israeli employees are also
subject to certain provisions of the general collective bargaining agreements between the
Histadrut (General Federation of Labor in Israel) and the Coordination Bureau of Economic
Organizations (including the Industrialists Association) by order of the Israeli Ministry
of Labor and Welfare. None of our employees are represented by a labor union and we have
not experienced any work stoppages. 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 and sales personnel are paid commissions based on our performance
in certain territories worldwide.

We
are subject, like all other Israeli employers, to Israeli labor laws and regulations. The
laws principally concern matters like paid annual vacation, paid sick days and other
conditions of employment. In addition, Israeli law generally requires severance pay, which
may be funded by managers insurance described below (or by other funds), upon the
retirement or death of an employee or termination of employment, subject to the provisions
of the law. Provisions for severance pay 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. These amounts also include payments by the employee for national health
insurance. The total payments to the National Insurance Institute are equal to
approximately 16.25% of the wages (up to a specified amount), of which the employee
contributes approximately 66% and the employer contributes approximately 34%.

54

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We
follow a practice, although not legally required, to contribute funds on behalf of all 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 a lump-sum payment upon retirement and securing the severance pay, if
legally entitled, upon termination of employment. We decide whether each employee is
entitled to participate in the plan, and each employee who agrees to participate
contributes an amount equal to 5% of his or her basic salary and the employer contributes
approximately 14% of the salary.

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

As
of March 31, 2005, Rimon Ben Shaoul beneficially owned 749,278 Ordinary Shares, a
four-year option to purchase 355,593 Ordinary Shares, vesting immediately and exercisable
at a price of $0.18 per share and an option to purchase 72,000 Ordinary Shares, vesting in
full on March 1, 2005 (subject to the completion of a full year of service on our Board of
Directors) and exercisable at a price of $0.18 per share for three years following
vesting. Assuming the exercise of such options and no other exercise of our convertible
securities, Mr. Ben Shaoul will hold 1.23% of our then outstanding Ordinary Shares.

As
of March 31, 2005, Aviv Tzidon beneficially owned an option to purchase 1,800,000 Ordinary
Shares, (for further information, see item 6B) exercisable at a price of $0.18 per share
for three years. Assuming the exercise of such options and no other exercise of our
convertible securities, Mr. Tzidon will hold 1.85% of our then outstanding Ordinary
Shares.

Other
than Messrs.Rimon Ben Shaoul and Aviv Tsidon, none of our directors and officers
beneficially owned more than 1% of our outstanding equity securities.

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

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

The
following table sets forth certain information regarding the beneficial ownership of our
Ordinary Shares as of May 31, 2005 , by each person or entity known to own beneficially
more than 5% of our outstanding Ordinary Shares based on information provided to us by the
holders or disclosed in public filings with the Securities and Exchange Commission.

55

---

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|Name                                  | Number of OrdinaryShares Beneficially Owned(1) | Percentage of
Outstanding Ordinary
Shares(2)
|------------------------------------- | ---------------------------------------------- | --------------------------------------------
|
|
|
|
|CHUN Holdings Limited Partnership c/o | 69,007,052                                     | 64.89%                                      
|Yigal Arnon & Co.                    
|1 Azrieli Center Tel-Aviv 67021      
|Israel. (3)                          
|                                      |                                                |                                             
|Mikal Ltd. 7 Yad Harutzim St          | 5,666,856(4)                                   | 5.83%                                       
|Herzliya 46606 Israel                
|                                      |                                                |                                             
|Polar Investments House               | 8,411,167(5)                                   | 8.61%                                       
|Platinum House                       
|21 Ha'arbah St                       
|Tel Aviv 64731 Israel                
|                                      |                                                |                                             
|Bank Hapoalim B.M                     | 5,277,778                                      | 5.45%                                       
|104 Hayarkon St                      
|Tel Aviv 63432 Israel                
|                                      |                                                |                                             
|Bank Leumi Le-Israel B.M              | 6,111,111                                      | 6.4%                                        
|24-32 Yehuda Halevi St               
|Tel Aviv 63432 Israel                

---

|(1) | Except
as otherwise noted and pursuant to applicable community property laws,
               each person named in the table has sole voting and investment power with
respect                to all ordinary shares listed as owned by such person. Shares
beneficially owned                include shares that may be acquired pursuant to options
that are exercisable                within 60 days of May 31, 2005.
|--- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(2) | Ordinary
shares deemed beneficially owned by virtue of the right of any person                or
group to acquire these ordinary shares within 60 days of May 31, 2005 are
               treated as outstanding only for the purposes of determining the percent
owned by                such person or group. The percentage of outstanding ordinary
shares is based on                95,483,544 Ordinary Shares outstanding as of May
31,2005.
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(3) | Based
on information reported by Chun LP in its Schedule 13D, the general
               partner of Chun LP is Chun Holdings Ltd., a private Israeli company
jointly held                by Aviv Tsidon (33.3%), Aeronautics Defense System Ltd.
(33.3%) and Prescient                System & Technologies Pte. Ltd. (33.3%).
|--- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(4) | Includes
a four-year warrant to purchase 1,777,967 of Ordinary Shares at a price                of
$0.18 share, exercisable immediately.
|--- | ----------------------------------------------------------------------------------------------------------------------------------------

|(5) | Includes
2,570,307 Ordinary Shares held by Koonras Technologies Ltd., a
               wholly-owned subsidiary of Polar Investments Ltd. It also includes a
four-year                warrant to purchase 2,158,960 (including 911,678 warrants held
by Koonras) of                our Ordinary Shares at a price of $0.18 share, exercisable
immediately.
|--- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

As
of May 31, 2005, we had approximately 5 shareholders of record with a United States
address holding approximately 557,208 of our Ordinary Shares representing approximately
0.58% of our outstanding share capital as of such date.

56

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

# Management Services
Agreements with Elisra Electronic Systems Ltd.

On
July 27, 2000 we entered into a management services agreement with Elisra Electronic
Systems Ltd., our former controlling shareholder, pursuant to which we paid Elisra a
management services fee of $200,000. The agreement expired on December 31, 2000. On March
29, 2001, we entered into a second management services agreement with Elisra pursuant to
which Elisra provided us with management services during fiscal 2001 for an annual fee of
$200,000, which has since expired. On March 18, 2002, we entered into a third management
services agreement with Elisra pursuant to which Elisra will provide us with management
services during the year 2002 for an annual fee of $200,000. On April 6, 2003 we entered
into a fourth management services agreement with Elisra pursuant to which Elisra will
provide us with management services during the year 2003 for an annual fee of $200,000.
The fourth management agreement was approved by our audit committee and by our board of
directors. Pursuant to Elisras sale of all its holdings during the fourth quarter of
2003, the fourth management agreement was terminated and is no longer in effect as of
December 23, 2003. See Item 10. Additional Information  Transactions Requiring
Special Approval.

# Loan Agreement with
Elisra

On
May 15, 2002, we obtained a $4.0 million credit line from Elisra, under which we
borrowed $3.5 million and which bore interest at a rate of three months LIBOR plus 1%. The
proceeds of this loan were used to finance our operations in the third quarter of 2002.
Following a payment by a customer of approximately $12.5 million, this loan was repaid and
the credit line was terminated.

# One-Time Acquisition
through our Subsidiary

During
2003, our subsidiary, BVR-S Pacific, purchased on behalf of Elisra, certain hardware
products from a Singaporean company. BVR-S Pacific sold such products to Elisra
thereafter. BVR-S Pacific received a 10% commission from Elisra (approximately $50,000) on
this sale.

# Transaction with a
Subsidiary of Elisra

We
have made purchases of a specific component that is incorporated into our on-board
training systems from Tadiran Spectalink Ltd., a wholly owned subsidiary of Elisra, our
former controlling shareholder. Purchases from Tadiran Spectalink were approximately
$45,000, $244,000 and $1.7 million for fiscal 2003, fiscal 2002 and fiscal 2001,
respectively. We believe that the terms of our transactions with Tadiran Spectalink were
no less favorable to us from those we could have obtained from an unaffiliated third party
supplier. In November 2002, Elta, a division of IAI, acquired from Koor Industries Ltd. 30%
of the outstanding shares of Elisra at such time and pursuant to which, we treat IAI as a
related party. See Item 4  Information on the Company  B. Business
Overview  Strategic Relationships. In 2003, we recorded approximately $1.4
million as revenues and approximately $0.5 million in expenses as cost of sales from
transactions with IAI.

57

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# Loan from Major
Shareholders

On
October 1, 2003 our major shareholders(at that time) loaned us an aggregate amount of
$601,000, in order to finance our operations. This loan does not bear interest and is
comprised of: (i) a $381,000 loan from Elisra, which was subsequently repaid in April
2004; (ii) a $120,000 loan from Clal Industries and Investments Ltd.,which will mature in
October 2005 ; (iii) a $62,000 loan from Polar Investment Ltd., which was subsequently
converted into shares  see below); and (iv) a $38,000 loan from Koonras Technologies
Ltd., which was subsequently converted into shares  see below.

# Short-Term Loan from Chun

In
December 2003, we received a loan from Chun in the amount of $430,000 linked to the US
Dollar and bearing no interest. In March 1, 2004, we repaid the aforementioned loan.

# Agreement with Consult
Wise Pte Ltd.

On
January 1, 2004, we entered into an agreement with Consult Wise Pte Ltd., a Singaporean
company. Maayan Tzidon, the brother of Aviv Tzidon, the Chairman of our Board of
Directors, holds 50% of the issued and outstanding shares of Consult Wise. Our audit
committee and board of directors in their meetings on March 3, 2004 approved this
agreement. Pursuant to this agreement, we agreed to pay Consult Wise $3,000 per month for
the provision of its marketing services of our products and services in Korea and
Singapore, for a period of three years commencing January 1, 2004. In lieu of cash, we
agreed to pay the monthly fee in our Ordinary Shares based on a per share price of $0.18.
In order to facilitate the payment of shares, a trustee was issued 600,000 of our Ordinary
Shares and was instructed to release 16,667 of our Ordinary Shares to Consult Wise each
month during the term of the agreement. Should the agreement be terminated prior to the
completion of the three-year term, no more shares will be issued to Consult Wise pursuant
to the agreement.

For further information see:

| |  | Sale
of Shares and Issue of Warrants to Investors below.
| | - | ----------------------------------------------------------

| |  | Note
23 to the Consolidated Financial Statements included in this annual report.
| | - | --------------------------------------------------------------------------------

58

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# Sale of Shares to
Principal Shareholders

Sale of Shares to and
Issue of Warrants to Chun

On
November 21, 2003, Chun Holdings Ltd., or Chun, issued a tender offer to purchase all of
our outstanding shares for a purchase price of $0.18 per share. Pursuant to the tender
offer, which expired on December 30, 2003, some of our shareholders, including Clal
Industries Ltd. and our former controlling shareholder Elisra Electronics Systems Ltd., or
Elisra, tendered an aggregate of 7,142,608 of their shares, constituting 67% of our issued
and outstanding share capital. Upon the request of Chun, all of the tendered shares were
registered in the name of its affiliate Chun Holdings L.P., or Chun LP, which became our
controlling shareholder. As of May 31, 2005 Chun was holding an aggregate of 64.89% of our
outstanding shares. Following the expiration of the tender offer, Elisra no longer held
any of our share capital.

On
March 3, 2004, Chun LP entered into an agreement to purchase 33,333,333 of our Ordinary
Shares at a price per share of $0.18 for an aggregate purchase price of $6,000,000. This
transaction was approved by our Audit Committee, Board of Directors and by a special
majority of our shareholders who did not have a personal interest in the transaction and
who voted at our Shareholders Meeting held on March 1, 2004.

Chun
LP also agreed on such date to provide our company with a credit line in the amount of
$3.2 million. In consideration for this credit line our Audit Committee and our Board of
Directors agreed, subject to shareholder approval, to grant Chun LP a four-year warrant to
purchase an additional 40,000,000 of our Ordinary Shares for an exercise price of $0.18
per share. A special majority of our shareholders who did not have a personal interest in
the transaction and who voted at our shareholders meeting held on March 1, 2004, approved
the grant of the warrant. Chun LP, however, waived its right to receivewarrants for the
purchase of 10,000,000 of our Ordinary Shares and agreed that such warrants be granted to
other investors (see below).

Options issued to the
Chairman of the Board of Directors

On
January 1, 2004, Aviv Tzidon received an option to purchase 9,000,000 of our Ordinary
Shares issued for services rendered as Chairman of our Board of Directors. One fifth of
the options will vest upon completion of each full year of service on our Board of
Directors, which commenced on November 24, 2003. Each option is exercisable for three
years following vesting and is exercisable at a price per share of $0.18. This transaction
was approved by our Audit Committee, our Board of Directors and a special majority of our
shareholders who did not have a personal interest in the transaction and who voted at our
shareholders meeting held on March 1, 2004.

59

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---



Sale of Shares and
Issuance of Warrants to Investors

On
March 3, 2004, a group of investors entered into an investment agreement to purchase
22,428,225 of our Ordinary Shares at a price per share of $0.18 for an aggregate purchase
price of $4,037,080. Two of the investors, Polar Communications Ltd. and Koonras
Technologies Ltd., who were also existing security holders of the Company prior to the
March 2004 investment, were issued additional shares in consideration for their agreement
to convert an aggregate debt owed to them of $100,000 into 555,556 of our Ordinary Shares
at a price per share of $0.18. Pursuant to this investment agreement, the investors were
also issued four-year warrants to purchase an aggregate of 10,000,000 of our Ordinary
Shares with an exercise price of $0.18 per share; Chun LP was initially granted these
warrants, but subsequently waived its rights to receive such warrants in favor of the
investors, pro rata to their investments. This transaction was approved by our Audit
Committee, our Board of Directors and a special majority of our shareholders who did not
have a personal interest in the transaction and who voted at our Shareholders Meeting held
on March 1, 2004.

Convertible Loan
Agreements

On
March 3, 2004, three of our banks, namely Bank Leumi Le-Israel B.M., Bank Hapoalim B.M.
and the Industrial Development Bank Ltd., agreed to convert existing loans in the amount
of $1.1 million, $700,000 and $200,000, respectively, into 6,111,111, 3,888,889 and
1,111,111 of our Ordinary Shares, respectively.

# Employment Agreements

We
have entered into employment agreements with each of our executive officers. See
Item 6  Directors, Senior Management and Employees  C. Board
PracticesManagement Employment Agreements.

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

| | Not
applicable.
| | ---------------

|ITEM 8. | Financial Information
|------- | ---------------------

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

The
Financial Statements required by this item are found at the end of this Annual Report,
beginning on page F-1.

# Legal Proceedings

We
are not a party to any material legal proceeding.

60

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

There
has been no other material changes in our financial position since December 31, 2004.

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

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

Our
Ordinary Shares have traded on the Over The Counter Bulletin Board under the symbol
BVRSF.OB since February 2003 and previously traded on the Nasdaq SmallCap Market from
March 2001. From October 1998 until March 2001 our shares were traded on the Nasdaq
National Market.

The
following table sets forth, for the periods indicated, the range of high and low sales
prices of our Ordinary Shares:

|2000                          | High  | Low  
|----------------------------- | ----- | -----
|
|
|
|
|Year ending December 31, 2000 | $9.63 | $0.88
|                             
|2001                         
|                              |       |      
|First Quarter                 | $3.50 | $1.50
|Second Quarter                | $2.31 | $1.00
|Third Quarter                 | $3.50 | $2.03
|Fourth Quarter                | $3.02 | $2.40
|                             
|2002                         
|                              |       |      
|First Quarter                 | $3.00 | $2.48
|Second Quarter                | $2.65 | $1.75
|Third Quarter                 | $2.42 | $1.02
|Fourth Quarter                | $1.07 | $0.50

61

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|               |       |      
|-------------- | ----- | -----
|              
|2003           |       |      
|               |       |      
|First Quarter  | $1.10 | $0.37
|Second Quarter | $0.95 | $0.75
|Third Quarter  | $0.99 | $0.60
|Fourth Quarter | $0.85 | $0.10

|               |       |      
|-------------- | ----- | -----
|
|
|
|
|2004           |       |      
|               |       |      
|First Quarter  | $1.10 | $0.40
|Second Quarter | $0.95 | $0.53
|Third Quarter  | $0.60 | $0.40
|Fourth Quarter | $0.71 | $0.40
|               |       |      
|2005          
|               |       |      
|January        | $0.72 | $0.58
|February       | $0.66 | $0.54
|March          | $0.54 | $0.20
|April          | $0.21 | $0.18
|May            | $0.20 | $0.16

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

| | Not
applicable.
| | ---------------

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

Our
Ordinary Shares traded on the Nasdaq SmallCap Market until February 13, 2003. The Nasdaq
delisted our Ordinary Shares after we failed to comply with required listing standards of
the Nasdaq SmallCap Market. Since February 14, 2003, our Ordinary Shares have been traded
on the Over-the-Counter Bulletin Board under the symbol BVRSF.OB.

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

| | Not
applicable.
| | ---------------

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

| | Not
applicable.
| | ---------------

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

| | Not
applicable.
| | ---------------

62

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|ITEM 10. | Additional Information
|-------- | ----------------------

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

| | Not
applicable.
| | ---------------

# B. Memorandum and
Articles of Association

# Objects and Purposes

We
were first registered under Israeli law on January 6, 1998. Our registration number with
the Israel Registrar of Companies is 52-004362-1. Our objects and purposes include the
development, design, manufacture and marketing of advanced training systems for military
objectives and a wide variety of other business purposes as set forth in Section 2 of our
Memorandum of Association, which was filed with the Israel Registrar of Companies.

# Transactions Requiring
Special Approval

An
office holder is defined in the Companies Law as a director, general manager,
chief business manager, deputy general manager, vice general manager and any person
assuming the responsibilities of any of the foregoing positions without regard to such
persons title and any other manager who is directly subject to the general manager.

The
Companies Law imposes a duty of care and a duty of loyalty on all office holders of a
company. The duty of care 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 breach of such duty is governed by Israeli contract laws. The duty of
care includes a duty to use reasonable means to obtain:

| |  | information
on the appropriateness of a given action brought for his approval or performed by him by
virtue                   of his position; and
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------

| |  | all
other important information pertaining to the previous actions.
| | - | -------------------------------------------------------------------

The
duty of loyalty requires an office holder to act in good faith for the interests of the
company and includes a duty to:

| |  | refrain
from any conflict of interest between the performance of his duties in the company and
his personal                   affairs;
| | - | --------------------------------------------------------------------------------------------------------------------------------------

| |  | refrain
from any activity that is competitive with the company;
| | - | ---------------------------------------------------------------

| |  | refrain
from exploiting any business opportunity of the company to receive a personal gain for
himself or                   others; and
| | - | ---------------------------------------------------------------------------------------------------------------------------------------

| |  | disclose
to the company any information or documents relating to a companys affairs which
the office holder has received due to his position as an office holder.
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------

63

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Each
person listed in the table under Item 6  Directors, Senior Management and
Employees  A. Directors and Senior Management is an office holder.

The
Companies Law requires that an office holder disclose to the company 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. The disclosure is
required to be made promptly and in any event, no later than the board of directors
meeting in which the transaction is first discussed. A personal interest of an office
holder includes an interest of a company in which the office holder is, directly or
indirectly, a 5% or greater shareholder, director or general manager or in which he or she
has the right to appoint at least one director or the general manager. If the transaction
is an extraordinary transaction, the office holder must also disclose any personal
interest held by his or her relative.

Under
the Companies Law, an extraordinary transaction is a transaction:

| |  | not
in the ordinary course of business;
| | - | ---------------------------------------

| |  | not
on market terms; or
| | - | -----------------------

| |  | likely
to have a material impact on the company's profitability, assets or liabilities.
| | - | ---------------------------------------------------------------------------------------

Under
the Companies Law, once an office holder complies with the above disclosure requirement,
the board of directors may approve the transaction, unless the companys articles of
association provide otherwise. A transaction that is adverse to the companys
interest may not be approved. If the transaction is an extraordinary transaction, then it
also must be approved by the audit committee, before the board approval, and under certain
circumstances, by the shareholders of the company. A director who has a personal interest
in a matter which is considered at a meeting of the board of directors or the audit
committee may not be present at this meeting or vote on this matter. If a majority of the
directors has a personal interest in a transaction, these directors are permitted to be
present and vote, but shareholder approval is also required.

Under
the Companies Law, the disclosure requirements which apply to an office holder also apply
to a controlling shareholder of a public company. A controlling shareholder includes a
shareholder that holds 25% or more of the voting rights in a public company if no other
shareholder owns more than 50% of the voting rights in the company. Extraordinary
transactions of a public company with a controlling shareholder or in which a controlling
shareholder has a personal interest, and the terms of compensation of a controlling
shareholder who is an office holder, require the approval of the audit committee, the
board of directors and the shareholders of the company. The shareholder approval must
satisfy either of the following criteria:

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| |  | the
majority of the votes for the approval includes the votes of at least one-third of the
total votes of shareholders who are present at the meeting and who have no personal
interest in the transaction; the votes of abstaining shareholders shall not be included
in the number of the said total votes; or
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | the
total number of votes against the approval, among the shareholders who are present at the
meeting and who have no personal interest in the transaction shall not exceed 1% of the
aggregate voting rights in the company.
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

For
information concerning the direct and indirect personal interests of certain of our office
holders and principal shareholders in certain transactions with us, see Item 7
 Major Shareholders and Related Party Transactions  B. Related Party
Transactions

# Directors
Compensation

Under
the Companies Law, all arrangements as to compensation of office holders who are not
directors require approval of the board of directors. Arrangements as to compensation of
directors also require audit committee approval, before board approval, and shareholder
approval. Nevertheless, pursuant to our articles of association, our directors who are not
our employees or professional services providers shall not be paid any remuneration for
their services unless it was approved by the general meeting of our shareholders.

# Directors Borrowing
Powers

Our
board of directors may from time to time, in its discretion, cause the Company to borrow
or secure the payment of any sum or sums of money for the purposes of the Company. Such
borrowing powers may be exercised by a majority of the board in accordance with our
articles of association.

# Rights attached to our
Shares

Dividend
Rights. Our articles of association provide that our shareholders at a general meeting
and upon the recommendation of our board of directors may from time to time, declare such
dividend as may appear to be justified but not in excess of our board of directors
recommendation. Subject to the rights of the holders of shares with preferential or other
special rights that may be authorized in the future, holders of Ordinary Shares are
entitled to receive dividends according to their rights and interest in our profits.

Voting
Rights. Holders of Ordinary Shares have one vote for each ordinary share held on all
matters submitted to a vote of shareholders. These voting rights may be affected by the
grant of any special voting rights to the holders of a class of shares with preferential
rights that may be authorized in the future. The Ordinary Shares do not have cumulative
voting rights in the election of directors. As a result, holders of Ordinary Shares that
represent more than 50% of the voting power have the power to elect all the directors to
the exclusion of the remaining shareholders.

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Liquidation
Rights. In the event of our liquidation, after satisfaction of liabilities to
creditors, our assets will be distributed to the holders of Ordinary Shares in proportion
to their respective holdings. This liquidation right may be affected by the grant of
preferential dividends or distribution rights to the holders of a class of shares with
preferential rights that may be authorized in the future.

Redemption
Provisions. We may, subject to applicable law, issue redeemable preference shares and
redeem the same.

Capital
Calls. Under our memorandum of association and the Companies Law, the liability of our
shareholders is limited to the par value of the shares held by them.

Preemptive,
First Refusal and Co-Sale Rights. All outstanding Ordinary Shares are validly issued,
fully paid and non-assessable and do not have preemptive rights, rights of first refusal
or co-sale rights.

Transfer
of Shares. Fully paid Ordinary Shares are issued in registered form and may be
transferred pursuant to our articles of association, unless such transfer is restricted or
prohibited by another instrument and subject to applicable securities laws.

# Modification of Rights

Unless
otherwise provided by our articles of association, rights attached to any class may be
modified or abrogated by a resolution adopted in a general meeting approved by a majority
of 75% of the voting power represented at the meeting in person or by proxy and voting
thereon, subject to the sanction of a resolution passed by majority of the holders of 75%
a majority of the shares of such class present and voting as a separate general meeting of
the holders of such class.

# Shareholders
Meetings and Resolutions

The
quorum required for an ordinary meeting of shareholders consists of at least two
shareholders present in person or by proxy, who hold or represent between them at least
33-1/3% of the outstanding voting shares, unless otherwise required by applicable rules. A
meeting adjourned for lack of a quorum generally is adjourned to the same day in the
following week at the same time and place or any time and place as the chairman of the
board may designate. At such reconvened meeting the required quorum consists of any two
shareholders present in person or by proxy.

Under
the Companies Law, each shareholder of record will be provided at least 21 calendar
days prior notice of any general shareholders meeting.

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Under
the Companies Law and our articles of association, all resolutions of our shareholders
require a simple majority of the shares present, in person or by proxy, and voting on the
matter, subject to certain exceptions provided for under the Companies Law, which require
a majority of at least 75% of the shares present. However, the Companies Law requires that
any amendment to the articles of association of a company incorporated prior to February
1, 2000, shall be approved by holders of at least 75% of the voting rights represented at
the meeting, in person or by proxy, and voting thereon, unless the articles are amended to
the effect of requiring a different majority.

Under
the Companies Law, each and every shareholder has a duty to act in good faith in
exercising his rights and fulfilling his obligations towards us and other shareholders,
such as in voting in the general meeting of shareholders on the following matters:

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

| |  | an
increase of our authorized share capital;
| | - | --------------------------------------------

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

| |  | approval
of certain actions and transactions that require shareholder approval.
| | - | -------------------------------------------------------------------------------

In
addition, each and every shareholder has the general duty to refrain from depriving other
shareholders of their rights.

Our
annual general meetings are held once in every calendar year at such time (within a period
of not more than fifteen months after the last preceding annual general meeting) and at
such place determined by our board. All general meetings other than annual general
meetings shall be called extraordinary general meetings. Our board may, whenever it thinks
fit, convene an extraordinary general meeting at such time and place as it determines, and
shall be obligated to do so upon a requisition in writing in accordance with the Companies
Law.

# Limitation on Owning
Securities

The
ownership of our Ordinary Shares by nonresidents of Israel is not restricted in any way by
our memorandum of association and articles of association or the laws of the State of
Israel, except for citizens of countries, which are in a state of war with Israel, who may
not be recognized as owners of our Ordinary Shares.

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# Mergers and Acquisitions
under Israeli Law

The
Companies Law includes provisions that allow a merger transaction and requires that each
company that is a party to a merger have the transaction approved by its board of
directors and a vote of at least 75% of its shares, at a shareholders meeting called
on at least 21 days prior notice. For purposes of the shareholders vote, unless a
court rules otherwise, the merger will not be deemed approved if a majority of the shares
held by parties other than the other party to the merger, or by any person who holds 25%
or more of the shares of the other party, or the right to appoint 25% or more of the
directors of the other party, vote against the merger. Upon the request of a creditor of
either party of the proposed merger, the 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 to the
merger. In addition, a merger may not be completed unless at least 50 days have passed
from the time that a proposal for the approval of the merger has been filed with the
Israel Registrar of Companies and 30 days have passed from the time that the approval of
the merging parties shareholders has been received.

The
Companies Law also provides that an acquisition of shares of a public company must be made
by means of a tender offer if as a result of the acquisition the purchaser would become a
25% shareholder of the company and there is no existing 25% or greater shareholder in the
company. If there is no existing 45% or greater shareholder in the company, the Companies
Law provides that an acquisition of shares of a public company must be made by means of a
tender offer if as a result of the acquisition the purchaser would become a 45%
shareholder of the company. Regulations adopted under the Companies Law provide that these
tender offer requirements do not apply to companies whose shares are listed for trading
outside of Israel if, according to the laws of the country in which the shares have been
offered to the public or in which the shares are listed for trading on an exchange,
including the rules and regulations of such exchange, there is either a restriction upon
any acquisition of control to any extent, or the acquisition of control to any extent
requires the purchaser to make a tender offer to the public.

If
following any acquisition of shares, the acquirer will hold 90% or more of the
companys shares or of a class of shares, the acquisition may not be made other than
through a tender offer to acquire all of the shares of such class. If the shareholders who
declined the tender offer hold 5% or less of the companys outstanding share capital
or class of shares, all the shares that the acquiror offered to purchase will be
transferred to it. However, the tendered shareholders may seek to alter the consideration
by court order.

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

In
September 2001, we entered into an agreement with Aermacchi S.p.A., a leading manufacturer
and producer of modern military training aircraft in Europe, for the supply of a MB339
training aircraft full mission simulator and three years of logistical support. The
contract price is $7.1 million, which, as in substantially all of our contracts, is
payable in accordance and subject to timely achievement of specific milestones during the
lifetime of the project. We completed this project during the second quarter of 2003 and
enter into the logistical support period. We expect to derive revenues from this project
until 2006.

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On
August 15, 2002, we entered into a contract with a foreign naval force with respect to the
delivery of enhancements to ship-borne, embedded Naval Combat Maneuvering Instrumentation.
The contract price is approximately $4.8 million, which, as in substantially all of our
contracts, is payable in accordance and subject to timely achievement of specific
milestones during the lifetime of the project. We expect to complete this project during
the third quarter of 2005.

In
April 2003, we entered into a contract with the air force of a Latin American country for
the development and supply of an F-16 training facility. The contract price is
approximately $5.0 million, which, as in substantially all of our contracts, is payable in
accordance and subject to timely achievement of specific milestones during the lifetime of
the project. We expect to complete this project during the third quarter of 2005.

In
October 2003, we entered into a contract with the armed forces of a Latin American country
for the development and supply of a tank training center. The contract price is
approximately $2.7 million, which, as in substantially all of our contracts, is payable in
accordance with and subject to timely achievement of specific milestones during the
lifetime of the project. We expect to complete this project during the third quarter of
2005.

In
November 2003, we entered into a contract together with a European company, with the navy
of a European country for the development and supply of a Naval Tactical Trainer. The
contract price is approximately $1.5 million (a significant portion of which will be
payable to us), which, as in substantially all of our contracts, is payable in accordance
with and subject to timely achievement of specific milestones during the lifetime of the
project. We completed this project during the first quarter of 2005.

In
December 2003, we entered into a leasing contract with the Israel Air Force for the use
and maintenance of an ACMI system. The contract price is approximately $0.7 million, and
is payable on a monthly basis. We expect to complete this contract during the first
quarter of 2006.

In
July 2004, we entered into a follow on contract with a customer in Asia for the provision
of Integrated Logistic Support services for a period of three years for a training system
that was previously provided by us. The contract price is approximately $1.6 million. We
expect to complete this project during the first quarter of 2007. As of May 2005, we
received $0.5 million under this contract.

In
August 2004, we entered into a contract with a NATO Member for the provision of EHUD Air
Combat Maneuvering Instrumentation (ACMI) systems. The contract price is approximately
$6.0 million, which, as in substantially all of our contracts, is payable in accordance
and subject to timely achievement of specific milestones during the lifetime of the
project. We expect to complete this project during the fourth quarter of 2005. As of June,
2005 we received $1.8 million under this contract.

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In
October 2004 we entered into a contract with Boeing for the integration of EHUD ACMI
systems on Boeings new F-15K aircraft, to be supplied to the Republic of Korea Air
Force (ROKAF). The contract price is approximately $1.5 million, which, as in
substantially all of our contracts, is payable in accordance and subject to timely
achievement of specific milestones during the lifetime of the project. We expect to
complete this project during the fourth quarter of 2005. As of May 2005, we received $0.7
million under this contract.

In
November 2004, we entered into a contract with Systex Corporation, a leading Asian System
Integration Company for the supply of an Infantry Multi-Weapon Firing Simulation System.
The contract price is approximately $2.6 million, which, as in substantially all of our
contracts, is payable in accordance and subject to timely achievement of specific
milestones during the lifetime of the project. We expect to complete this project during
the first quarter of 2007. As of May 2005, we received $1.1 million under this contract.

On
January 2005 we entered into an additional contract with Systex Corporation for the supply
of a Tank Simulation System. The contract price is approximately $1.4 million, which, as
in substantially all of our contracts, is payable in accordance and subject to timely
achievement of specific milestones during the lifetime of the project. We expect to
complete this project during the first quarter of 2006. As of May 2005, we received $0.7
million under this contract.

For
a summary of our other material contracts, see:

| |  | "Item
4 - Information on the Company - B. Business Overview - Strategic Relationships"
| | - | --------------------------------------------------------------------------------------

| |  | "Item
6 - Directors, Senior Management and Employees - B. Compensation"
| | - | -----------------------------------------------------------------------

| |  | "Item
7 - Major Shareholders and Related Party Transactions - B. Related Party Transactions"
| | - | --------------------------------------------------------------------------------------------

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

Under
current Israeli regulations, we may pay dividends or other distributions in respect of our
Ordinary Shares either in non-Israeli or Israeli currencies. If we make these payments in
Israeli currency, they will be freely converted into non-Israeli currencies at the rate of
exchange prevailing at the time of conversion. Because exchange rates between the NIS and
the dollar continuously fluctuate, a U.S. shareholder will be subject to the risk of
currency fluctuations between the date when we declare NIS-denominated dividends and the
date when we pay them in NIS. See Item 3. Key Information D. Risk
Factors.

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

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

# Israeli Tax
Considerations and Government Programs

The
following is a summary of the current tax structure applicable to companies in Israel,
with special reference to its effect on us. The following also contains a discussion of
certain Israeli and United States tax consequences to purchasers of our Ordinary Shares
and certain Israeli Government programs benefiting us. To the extent that the discussion
is based on new 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.

On
January 1, 2003 Israels tax laws underwent a significant tax reform (Amendment 132
to Israels Income Tax Ordinance (New Version)  1961, the New Law). The
underlying principle of the New Law is to broaden the categories of taxable income, and
reduce the tax rates imposed on employment income.

The
New Law includes provisions which impose a tax on capital gains at a rate of up to 15% for
Israeli residents, with respect to real capital gains derived from sales of shares of
publicly traded companies (which were previously exempt from capital gains tax in certain
cases) subject to certain conditions. Under the New Law, foreign residents will generally
continue to be exempt from capital gains tax on sale of traded securities of Israeli
companies.

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

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General Corporate Tax
Structure

Israeli
companies are subject to Company Tax at the rate of 34% of taxable income.
Under current law, the tax rates on companies is scheduled to go down to 30% by the year
2007. However, a new set of tax reform proposal has recently been announced. These include
changes to the tax rates on corporations, both with respect to business income and capital
gains. This draft legislation is referred to hereunder as the 2005 Reform
Proposal. There is no certainty that the 2005 Reform Proposal will be enacted into
law and if so what the final content of the amendments will be. Under the 2005 Reform
Proposal, the corporate tax rate is slated to be reduced incrementally from 34% to 25% by
the year 2010.. However, the effective tax rate payable by a company which derives income
from an approved enterprise (as further discussed below) may be considerably less.

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

On
March 30, 2005, the Knesset approved a reform of the Encouragement of Capital Investments
Law  1959 (hereinafter, the Encouragement reform).

Following
in section A is the outline of Capital Investments Law before the Encouragement reform,
with special reference to its effects on companies incorporated in Israel and in section B
significant changes due to the Encouragement reform.

|A. | The
Encouragement of Capital Investments Law before the Encouragement reform
|-- | ----------------------------------------------------------------------------

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

Taxable
income of a company derived from an approved enterprise is subject to company tax at the
maximum rate of 25% (rather than the ordinary corporate tax rate) for the benefit
period. The benefit period is seven years (and under certain
circumstances, as further detailed below, ten years) commencing with the year in which the
approved enterprise first generates taxable income, and is limited to twelve years from
commencement of production or 14 years from the date of approval, whichever is earlier.
The Investment Law also provides that a company that has an approved enterprise is
entitled to accelerated depreciation on its property and equipment that are included in an
approved investment program.

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A
company owning an approved enterprise may elect to receive an alternative package of
benefits. Under the alternative package, a companys undistributed income
derived from an approved enterprise will be exempt from company tax for a period of
between two and ten years from the first year of taxable income, depending on the
geographic location of the approved enterprise within Israel, and such company will be
eligible for a reduced tax rate for the remainder of the benefits period.

Our
requests for designation of our capital investment at our facility in Rosh Haayin as
an approved enterprise program were approved under the Investment Law. For
this approved enterprise, we elected the alternative package of benefits.

A
company that has elected the alternative package of benefits and that subsequently pays a
dividend out of income derived from the approved enterprise during the tax exemption
period will be subject to tax in respect of the amount distributed (including the tax
thereon) at the rate which would have been applicable had it not elected the alternative
package of benefits (generally 10%-25%, depending on the extent of foreign shareholders
holding our ordinary shares). In addition, the dividend recipient is taxed at the reduced
rate applicable to dividends from approved enterprises (15%), if the dividend is
distributed during the tax exemption period or within a specified period thereafter. We
must withhold this tax at source, regardless of whether the dividend is converted into
foreign currency. See Taxation of Ordinary SharesTaxation of Dividends
Paid On Ordinary Shares and Note 18 to the Consolidated Financial Statements.

Subject
to certain provisions concerning income under the alternative package of benefits, all
dividends are considered to be attributable to the entire enterprise and their effective
tax rate is the result of a weighted combination of the various applicable tax rates. We
are not obliged to distribute exempt retained profits under the alternative package of
benefits, and we may generally decide from which years profits to declare dividends.
We currently intend to reinvest the amount of our tax-exempt income and not to distribute
such income as a dividend.

The
Investment Center bases its decision as to whether or not to approve an application, on
the criteria set forth in the Investment Law and regulations, the then prevailing policy
of the Investment Center, and the specific objectives and financial criteria of the
applicant. Accordingly, there can be no assurance that any such application will be
approved. In addition, the benefits available to an approved enterprise are conditional
upon the fulfillment of conditions stipulated in the Investment Law and its regulations
and the criteria set forth in the specific certificate of approval, as described above. In
the event that a company does not meet these conditions, it would be required to refund
the amount of tax benefits, with the addition of the consumer price index linkage
adjustment and interest.

The
Investment Law also provides that an approved enterprise is entitled to accelerated
depreciation on its property and equipment that are included in an approved investment
program.

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We
have derived, and expect to continue to derive, a substantial portion of our income from
our approved enterprise facilities. Subject to compliance with applicable requirements,
income derived from our approved enterprise facility will be tax exempt for a period of
two years after we have taxable income and will be subject to a reduced company tax of up
to 25% depending on the extent of foreign shareholders holding our ordinary shares for the
following five years.

|B. | Outline
of primary changes of the Encouragement reform
|-- | ------------------------------------------------------

| | The
primary changes are as follows:
| | -----------------------------------

| | n | Companies
that meet the criteria of the Alternate Path of tax benefits will receive those benefits
without prior approval. In addition there will be no requirement to file reports with the
Investment Center. Audit will take place via the Income Tax Authorities as part of the
tax audits. Request for pre-ruling is possible.
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | n | Tax
benefits of the Alternate Path include lower tax rates or no tax depending on area and
the path chosen, lower tax rates on dividends and accelerated depreciation.
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | n | In
order to receive benefits in the Grant Path or the Alternate Path, the Industrial
Enterprise must contribute to the economic independence of the Countrys economy in
one of the following ways:
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | 1.       
Its
primary activity is in the Biotechnology or Nanotechnology fields and
          pre-approval is received from the head of research and development at the
Office           of the Chief Scientist;
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | 2.       
Its
revenue from a specific country is not greater than 75% of its total           revenues
that year;
| | ----------------------------------------------------------------------------------------------------------------

| | 3.       
25%
or more of its revenues are derived from a specific market of at least 12
          million residents.
| | --------------------------------------------------------------------------------------------------------------------

| | n | Upon
the establishment of an enterprise, an investment of at least NIS 300K in production
machinery and equipment within three years is required.
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------

| | n | For
an expansion, a company is required to invest within three years the higher of NIS 300K
in production machinery and equipment or a certain percentage of its existing production
machinery and equipment as follows:
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

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|Production assets          | % of required investment | Required investment      
|-------------------------- | ------------------------ | -------------------------
|
|
|
|
|Up to NIS140 million       | 12%                      | Up to NIS 16.8 million   
|From NIS 140 - 500 million | 7%                       | From NIS 9.8 - 35 million
|Over NIS 500 million       | 5%                       | From NIS 25 million      

Grants under the Law for the
Encouragement of Industrial Research and Development, 1984

Under
the Law for the Encouragement of Industrial Research and Development, 1984, research and
development programs which meet certain criteria and are approved by the Research
Committee, a governmental committee of the Office of the Chief Scientist are eligible for
grants of up to 50% of the projects expenditure, as determined by the Research
Committee, in return for the payment of royalties from the sale of the product developed
in accordance with the program. Regulations promulgated under the Research Law generally
provide for the payment of royalties to the Chief Scientist ranging from 3% to 5% or in
some cases, such as ours, ranging from 4% to 6%, on revenues from products developed using
such grants until 100-150% of the dollar-linked grant is repaid. Following the full
repayment of the grant, there is no further liability for payment. See Item
5Operating and Financial Review and Prospects and Note 18 to the Consolidated
Financial Statements.

The
terms of the Israeli government participation also require that the manufacture of
products developed with government grants be performed in Israel. However, under the
regulations promulgated under the Research Law, in the event that any of the manufacturing
is performed outside Israel by any entity other than us, if approval is received from the
Office of the Chief Scientist for such foreign manufacturing and the identity of the
foreign manufacturers, we may be required to pay increased royalties. If the manufacturing
volume that is performed outside of Israel is less than 50%, the total amount to be repaid
to the Office of the Chief Scientist may be adjusted to 120% of the grant. If the
manufacturing volume that is performed outside of Israel is between 50% and 90% the total
amount may be adjusted to 150% of the grant and if it is more than 90%, the total amount
may be adjusted to 300% of the grant. Since our manufacturing activities are performed by
subcontractors outside of Israel, the consent of the Office of the Chief Scientist is
required for these activities and additional consents will be required in connection with
the manufacturing of products developed in the future with Office of the Chief Scientist
grants. The letters of approval under which we received the grants do not specifically
refer to our manufacturing activities outside of Israel however, we believe that the
Office of the Chief Scientist has adequately expressed its consent to such activities.
There can be no assurance that the consents granted to date by the Office of the Chief
Scientist will be deemed to be adequate under applicable laws and regulations or that such
consents will not be reversed or modified in any way or that we will obtain consents for
such activities at all from the Office of the Chief Scientist in the future. Failure to
comply with the requirements for consents for manufacturing outside of Israel could result
in penalties, cancellation of grants and denial of any future applications for grants or
for these consents. If the consents obtained from the Office of the Chief Scientist to
manufacture our products outside of Israel are terminated or if we are unable to obtain
similar consents in the future, our business could be harmed. A transfers of the
technology developed pursuant to the terms of these grants may be transferred outside of
Israel only subject to the payments promulgated under the Research Law and subject to the
prior approval of the Research Committee; technology transfers within Israel are also
subject to the prior approval of the Research Committee. Such approval is not required for
the export of any products resulting from such research or development. Approval of the
transfer of technology in Israel may be granted only if the recipient abides by all the
provisions of the Research Law and regulations promulgated thereunder, including the
restrictions on the transfer of know-how and production and the obligation to pay
royalties in an amount that may be increased. There can be no assurance that such consent,
if requested, will be granted under reasonable commercial terms. See Item
5Operating and Financial Review and ProspectsGovernment Grants.

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Effective
for grants received from the Office of the Chief Scientist under programs approved after
January 1, 1999, the outstanding balance of such grants will be subject to interest
equal to the 12 months LIBOR rate applicable to dollar deposits that is published on
the first business day of each calendar year.

As
governmental incentives, the funds generally available for grants from the Office of the
Chief Scientist may be reduced in the future and there is no assurance that the government
will not abolish such grants in the future. Even if these grants are maintained, there is
no assurance we will receive Office of the Chief Scientist grants in the future. In
addition, each application to the Office of the Chief Scientist is reviewed separately,
and grants are based on the program approved by the Research Committee. Generally,
expenditures supported under other incentive programs of the State of Israel are not
eligible for grants from the Office of the Chief Scientist. There is no assurance that
applications to the Office of the Chief Scientist will be approved and, until approved,
the amounts of any such grants is not determinable.

Tax Benefits and Grants
for Research and Development

Israeli
tax law allows, under certain conditions, a tax deduction in the year incurred for
expenditures (including capital expenditures) in scientific research and development
projects, if the expenditures are approved by the relevant Israeli government Ministry
(determined by the field of research) and the research and development is for the
promotion of the enterprise and is carried out by or on behalf of the company seeking such
deduction. Such expenditures not so approved are deductible over a three-year period.
However, expenditures made out of proceeds made available to us through government grants
are not deductible, according to Israeli law

76

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

According
to the Law for the Encouragement of Industry (Taxes), 1969, or the Industry
Encouragement Law, an Industrial Company is a company resident in
Israel, at least 90% of the income of which, in any tax year, determined in Israeli
currency (exclusive of income from certain 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 of the Industry Encouragement Law.

Under
the Industry Encouragement Law, Industrial Companies are entitled to the following
preferred corporate tax benefits:

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

| | (b)        right
to elect under certain conditions to file a consolidated tax return with
          additional related Israeli Industrial Companies;
| | ----------------------------------------------------------------------------------------------------------------------------------------------------

| | (c)        accelerated
depreciation rates on equipment and buildings;
| | ---------------------------------------------------------------------

| | (d)        deduction
over a three-year period of expenses involved with the issuance and           listing of
shares on a stock exchange;
| | -----------------------------------------------------------------------------------------------------------------------------------------

Eligibility
for the benefits under the Industry Encouragement Law is not subject to receipt of prior
approval from any governmental authority. 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.

Special Provisions
Relating to Taxation Under Inflationary Conditions

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

(a)       
          There is a special tax adjustment for the preservation of equity whereby certain
          corporate assets are classified broadly into fixed (inflation resistant) assets
          and non-fixed (soft) assets. Where a companys equity, as defined in such
          law, exceeds the depreciated cost of fixed assets, a deduction from taxable
          income that takes into account the effect of the applicable annual rate of
          inflation on such excess is allowed (up to a ceiling of 70% of taxable income in
          any single tax year, with the unused portion permitted to be carried forward on
          a linked basis). If the depreciated cost of fixed assets exceeds a
          companys equity, then such excess multiplied by the applicable annual rate
          of inflation is added to taxable income.

77

---

---



(b)       
          Subject to certain limitations, depreciation deductions on fixed assets and
          losses carried forward are adjusted for inflation based on the increase in the
          consumer price index.

(c)       
          Gains on certain traded securities, which are normally subject to reduced tax
          rates, are taxable in certain circumstances. Dealers in securities are subject
          to the regular tax rules applicable to business income in Israel.

Capital Gains Tax on
Sales of Our Ordinary Shares

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

Under
current Israeli law, capital gains tax is imposed on Israeli residents at a rate of 15% on
real gains derived on or after January 1, 2003, from the sale of shares in
(i) companies publicly traded on the Tel Aviv Stock Exchange (TASE), or
(ii) Israeli companies publicly traded on Nasdaq or on a recognized stock exchange or
regulated market in a country that has a treaty for the prevention of double taxation with
Israel (such as our company), or (iii) companies dually traded on both the TASE and Nasdaq
or on a recognized stock exchange or a regulated market outside of Israel. This tax rate
is contingent upon the shareholder not claiming a deduction for financing expenses, and
does not apply to: (i) the sale of shares to a relative (as defined in the Tax
Reform); (ii) the sale of shares by dealers in securities; (iii) the sale of shares by
shareholders that report in accordance with the Inflationary Adjustment Law; or
(iv) the sale of shares by shareholders who acquired their shares prior to an initial
public offering (that are subject to a different tax arrangement).  The tax basis of
shares acquired prior to January 1, 2003 will be determined in accordance with the average
closing share price in the three trading days preceding January 1, 2003.  However, a
request may be made to the tax authorities to consider the actual adjusted cost of the
shares as the tax basis if it is higher than such average price.

78

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---



It
should be noted that the 2005 Reform Proposal include several major changes regarding the
taxation of capital gains both from the sale of traded securities and of other assets.

Non-Israeli
residents are exempt from Israeli capital gains tax on any gains derived from the sale of
shares of an Israeli corporation publicly traded on the TASE and/or on a foreign stock
exchange, provided such gains do not derive from a permanent establishment of such
shareholders in Israel, and are exempt from Israeli capital gains tax on any gains
derived from the sale of shares of Israeli companies publicly traded on a recognized
stock exchange or regulated market outside of Israel, provided that such capital gains
are not derived from a permanent establishment in Israel and that such shareholders did
not acquire their shares prior to the issuers initial public offering. However,
non-Israeli corporations will not be entitled to such exemption 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
some instances where our shareholders may be liable to Israeli tax on the sale of their
ordinary shares, the payment of the consideration may be subject to the withholding of
Israeli tax at the source.

Pursuant
to the treaty between the Governments of the United States and Israel with respect to
taxes on income, or the U.S.-Israel tax treaty, the sale, exchange or disposition of our
ordinary shares by a person who qualifies as a resident of the United States under the
treaty and who is entitled to claim the benefits afforded to him by the treaty, will
generally not be subject to Israeli capital gains tax. This exemption shall not apply to a
person who held, directly or indirectly, shares representing 10% or more of the voting
power in our company during any part of the 12-month period preceding the sale, exchange
or disposition, subject to certain conditions. A sale, exchange or disposition of our
shares by a U.S. resident qualified under the treaty, who held, directly or indirectly,
shares representing 10% or more of the voting power in our company at any time during the
preceding 12-month period would be subject to Israeli tax, to the extent applicable;
however, under the treaty, this U.S. resident would be permitted to claim a credit for
these taxes against the U.S. income tax with respect to the sale, exchange or disposition,
subject to the limitations in U.S. laws applicable to foreign tax credits.

# Taxation of Dividends

Non-residents
of Israel are subject to income tax on income accrued or derived from sources in Israel.  These
sources of income include passive income such as dividends, royalties and interest, as
well as non-passive income from services rendered in Israel.  On distributions of
dividends other than bonus shares, or stock dividends, we would be required to withhold
income tax at the rate of 25%.  If the income out of which the dividend is being
paid is attributable to an approved enterprise under the Law for the Encouragement of
Capital Investments, 1959, the rate is 15%.  A different rate may be provided in a
treaty between Israel and the shareholders country of residence. Under the
U.S.-Israel tax treaty, if the income out of which the dividend is being paid is not
attributable to an approved enterprise, then income tax with respect to shareholders that
are U.S. corporations holding at least 10% of our voting power in the twelve-month period
preceding the distribution of such dividends, is required to be withheld at the rate of
12.5%.

79

---

---



Foreign Exchange
Regulations

Dividends
(if any) paid to the holders of our Ordinary Shares and any amounts payable upon our
dissolution, liquidation or winding up, as well as the proceeds of any sale in Israel of
the Ordinary Shares to an Israeli resident, may be paid in non-Israeli currency or, if
paid in Israeli currency, may be freely converted into dollars at the rate of exchange
prevailing at the time of conversion. Because exchange rates between the NIS and the
dollar fluctuate continuously, a U.S. shareholder will be subject to the risk of currency
fluctuations between the date when we declare NIS-denominated dividends and the date when
we pay them in NIS.

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

| | Not
applicable.
| | ---------------

|G. | Statements
by Experts.
|-- | ----------------------

| | Not
applicable.
| | ---------------

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

We
are subject to the informational requirements of the Securities Exchange Act of 1934, as
amended, applicable to foreign private issuers and fulfill the obligation with respect to
such requirements by filing reports with the Securities and Exchange Commission. You may
read and copy any document we file with the Securities and Exchange Commission without
charge at the Securities and Exchange Commissions public reference room at 450 Fifth
Street, N.W., Washington, D.C. 20549. Copies of such material may be obtained by mail from
the Public Reference Branch of the Securities and Exchange Commission at such address, at
prescribed rates. Please call the Securities and Exchange Commission at l-800-SEC-0330 for
further information on the public reference room.

As a foreign private issuer, we are
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 short-swing profit recovery provisions contained in Section
16 of the Exchange Act. In addition, we are not required under the Exchange Act to file
periodic reports and financial statements with the Securities and Exchange Commission as
frequently or as promptly as United States companies whose securities are registered under
the Exchange Act. A copy of each report submitted in accordance with applicable United
States law is available for public review at our principal executive offices.

80

---

---



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

| | Not
applicable.
| | ---------------

|ITEM 11. | Quantitative and Qualitative Disclosures About Market Risk
|-------- | ----------------------------------------------------------

Market
risk represents the risk of changes in the value of a financial instrument caused by
fluctuations in interest rates, equity prices and foreign exchange rates.

# Interest Rate Risk

We
are exposed to interest rate volatility primarily relating to interest rate changes
applicable to our withdrawals under our credit lines. Our credit lines bear interest at
rates, which vary with changes in LIBOR. We do not speculate on the future direction of
such interest rates. On March 2004, the Company reached an agreement with its principal
bank lenders for the repayment of $6.55 million and the deferral of repayment of long-term
loans totaling $1.5 million until the years 2005, 2006 and 2007. As of December 31,
2004, current maturities of long  term loans, $ 0.5 million bore interest at variable
rates. The weighted average interest rates on short-term bank credit (linked to the U.S.
dollar) as at December 31, 2004, 2003 and 2002 are 3.85%, 3.6% and 3.7%,
respectively. As of December 31, 2003, the Company utilized all of its available credit
lines which were due for payment through June 2004. As of December 31, 2004, the interest
expenses we attributed to the utilization of our credit lines amounted to $197,000. Interest
risk is estimated as the potential increase in interest expenses from a hypothetical 10%
increase in the interest rates. Assuming a hypothetical 10% increase, our interest
expenses would increase by $20,000.

# Equity Price Risk

As
of December 31, 2004, we did not have any marketable securities that were recorded at a
fair value, hence there was no exposure to equity price risk

81

---

---



# Foreign Currency
Exchange Risk

As
of December 31, 2004, we had cash and cash equivalents in New Israeli Shekels (NIS) or in
funds linked thereto in the amount of $373,000 (out of $2.7 million in cash and cash
equivalents that we had in total). Market risk is estimated as the potential decrease in
fair value resulting from a hypothetical 10% increase in the year-end Dollar exchange
rate. Assuming such increase in the Dollar exchange rate, the fair value of our cash and
cash equivalents would decrease immaterially by $34,000. As of December 31, 2004,
we had accounts receivable in New Israeli Shekels (NIS) or in funds linked thereto in the
amount of $508,000. Market risk is estimated as the potential decrease in fair value
resulting from a hypothetical 10% increase in the year-end Dollar exchange rate. Assuming
such increase in the Dollar exchange rate, the fair value of our accounts receivable would
decrease by $46,000.As of December 31, 2004, we had accounts payable in New
Israeli Shekels (NIS) or in funds linked thereto in the amount of $871,000. Market risk is
estimated as the potential increase in fair value resulting from a hypothetical 10%
decrease in the year-end Dollar exchange rate. Assuming such a decrease in the Dollar
exchange rate, the fair value of our accounts payable would increase by $79,000.

The
devaluation of the Singapore Dollar (SGD) against the Dollar in 2003 had no material
effect on the results of operations of the Company. As of December 31, 2004 we had
accounts receivable in SGD or in funds linked thereto in the aggregate amount of $197,000.
Market risk is estimated as the potential decrease in fair value resulting from a
hypothetical 10% increase in the year-end Dollar/SGD exchange rate. Assuming such an
increase in the Dollar/SGD exchange rate, the fair value of our SGD accounts receivable
would decrease by $18,000.

The
devaluation of the Euro against the Dollar in 2004 had no material effect on the results
of operations of the Company. As of December 31, 2004, we had other receivables in Euro or
in funds linked thereto in the aggregate amount of $23,000. Market risk is estimated as
the potential increase in fair value resulting from a hypothetical 10% decrease in the
year-end Dollar/Euro exchange rate. Assuming such a decrease in the Dollar/Euro exchange
rate, the fair value of our other payables in Euro would increase by $2,000.

As
of December 31, 2004 we had other payables in Euro or in funds linked thereto in the
aggregate amount of $ 377,000. Market risk is estimated as the potential increase in fair
value resulting from a hypothetical 10% decrease in the year-end Dollar/Euro exchange
rate. Assuming such a decrease in the Dollar/Euro exchange rate, the fair value of our
other payables in Euro would increase by $32,000.

As
of December 31, 2004, the Company had an outstanding put option (which formed part of a
certain put option over the course of twelve months signed in February 2003), for selling
$400,000 for NIS 1,920,000. The expiration of this option was staggered and finally
expired in February 2004. The fair value of the derivative financial instrument amounted
to a net asset of $172,000 and is recorded as an asset in the balance sheet.

82

---

---



# PART II

|ITEM 12. | Description of Securities Other Than Equity Securities
|-------- | ------------------------------------------------------

| | Not
applicable.
| | ---------------

|ITEM 13. | Defaults, Dividend Arrearages And Delinquencies
|-------- | -----------------------------------------------

| | Not
applicable.
| | ---------------

|ITEM 14. | Material
Modifications to the Rights of Security Holders and Use of Proceeds
|-------- | ----------------------------------------------------------------------------

| | Not
applicable.
| | ---------------

|ITEM 15. | Controls and Procedures
|-------- | -----------------------

We
have established and maintain disclosure controls and procedures that are designed to
ensure that material information relating to us that we file or submit under the
Securities Exchange Act of 1934 is recorded, processed, summarized, and reported within
the time periods specified in the Securities and Exchange Commissions rules and
forms, and that such information is accumulated and communicated to the companys
management, including its Chief Executive Officer and Chief Financial Officer, as
appropriate to allow timely decisions regarding required disclosure.

As
of the end of the period covered by this report, we carried out an evaluation, under the
supervision and with the participation of management, including the Chief Executive
Officer and Chief Financial Officer, of the effectiveness of the design and operation of
disclosure controls and procedures. Based on that evaluation of these disclosure controls
and procedures, the Chief Executive Officer and Chief Financial Officer concluded that our
disclosure controls and procedures were effective as of December 31, 2004.

The
Chief Executive Officer and Chief Financial Officer have also concluded that there were no
significant changes in the our internal controls or in other factors that could
significantly affect the internal controls subsequent to the date that the evaluation was
completed, including any corrective actions with regard to significant deficiencies and
material weaknesses.

|ITEM 16A | Audit Committee Financial Expert
|-------- | --------------------------------

Our
board of directors has determined that Orit Stav is our audit committee financial expert.

83

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|ITEM 16B | Code of Ethics
|-------- | --------------

On
May 13, 2004, our company adopted a code of ethics, which applies to all of our employees,
officers and directors, including our chief executive officer, our chief financial officer
and our principal accounting officer or controller or other persons performing similar
functions.

Copies
of our code of ethics will be available at our executive offices upon request.

|ITEM 16C | Principal Accountant Fees and Services
|-------- | --------------------------------------

The following table presents fees
for professional audit services rendered by Somekh Chaikin, a member of KPMG
International (independent auditors) for the audit of the Companys consolidated
annual financial statements for the years ended December 31, 2004 and 2003, and fees
billed for other services rendered by Somekh Chaikin, a member of KPMG International
(independent auditors).

|                      | 2004 | 2003
|--------------------- | ---- | ----
|
|
|
|
|Audit Fees(1)         |      |     
|Audit-Related Fees(2) |      |     
|Tax Fees(3)           |      |     
|All Other Fees(4)     |      |     

---

|(1) | Audit
fees consist of fees for professional services rendered for the audit of the Companys
Consolidated Financial Statements and review of financial statements and services
normally provided by the independent auditor in connection with statutory and regulatory
filings or engagements.
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(2) | Audit-related
fees are fees principally for assurance and related services that are not reported under
Audit Fees.
|--- | ------------------------------------------------------------------------------------------------------------------

|(3) | Tax
fees consist of tax compliance fees for the preparation of original and amended tax
returns, claims for refunds and tax advice.
|--- | -----------------------------------------------------------------------------------------------------------------------------------

|(4) | All
other fees not included in paragraph (1) through (3) above.
|--- | ---------------------------------------------------------------

84

---

---



Pre-approval Policies and
procedures

The audit committee approves all
audit, audit-related services, tax services and other services provided by KPMG. Any
services provided KPMG that are not specially included within the scope of the audit must
be pre-approved by our audit committee prior to any engagement.

|ITEM 16D | Exemptions from the Listing and Standards of Audit Committees
|-------- | -------------------------------------------------------------

| | Not
applicable.
| | ---------------

|ITEM 16E | Purchases of Equity Securities by the Issuer and Affiliated Purchasers
|-------- | ----------------------------------------------------------------------

For
information relating to the purchase of our securities by Chun LP see Item 7 
Major Shareholders and Related Party Transactions  B. Related Party
Transactions.

# PART III

|ITEM 17 | Financial Statements
|------- | --------------------

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

|ITEM 18 | Financial Statements
|------- | --------------------

The
Financial Statements required by this item are found at the end of this Annual Report,
beginning on page F-1.

85

---

---



|ITEM 19 | EXHIBITS
|------- | --------

The
exhibits filed with or incorporated into this annual report are listed on the index of
exhibits below.

|Exhibit No. |  | Description
|----------- |  | -----------

|1.1* |  | Memorandum
of Association of Registrant
|---- |  | ---------------------------------------

|1.2* |  | Form
of Articles of Association
|---- |  | -------------------------------

|2.1** |  | Management
Services Agreement, dated March 18, 2002, between the Registrant and Elisra
                   Electronic System Ltd. (an English summary accompanied by Hebrew
original)
|----- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|2.2*** |  | Management
Services Agreement, dated April 6, 2003, between the Registrant and Elisra
                   Electronic System Ltd. (an English summary accompanied by Hebrew
original)
|------ |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|2.3 |  | Lease
agreement, dated September 14, 1999, as amended, between BVR Technologies Ltd.
                   and Minrav Holdings Ltd. (an English summary accompanied by Hebrew
original)
|---- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|2.4 |  | Lease
agreement, dated August 29, 1999, between the Registrant and Electra Real Estate
                   Ltd.(an English summary accompanied by Hebrew original)
|---- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------

|3 |  | Subsidiaries
of the Registrant
|-- |  | ------------------------------

|10.1 |  | Consent
of Independent Registered Public Accounting firm.
|---- |  | ---------------------------------------------------------

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

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

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

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

---

* Incorporated by reference to the
Registration Statement on Form 20-F (Commission File No. 0-29884).** Incorporated by reference to the
annual report on Form 20-F for the year ended December 31, 2001.*** Incorporated by reference to the
annual report on Form 20-F for the year ended December 31, 2002. Incorporated by reference to
the annual report on Form 20-F for the year ended December 31, 2000.

86

---

---



SIGNATURE

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

| |  | B.V.R. SYSTEMS (1998) LTD.BY: /S/ Ilan Gillies
Ilan GilliesChief Executive Officer
| |  | ------------------------------------------------------------------------------------------------

| |  | BY: /S/ Reuven Shahar
Reuven ShaharChief Financial Officer
| |  | ------------------------------------------------------------------------

Date: June 27, 2005

88

---

---

B.V.R. Systems (1998) Ltd.

Financial Statements

As of December 31, 2004



---

---

|                                                           
|-----------------------------------------------------------
|B.V.R. Systems (1998) Ltd                                  
|                                                           
|Consolidated Financial Statements as of
  December 31, 2004
|                                                           
|                                                           

Contents

|                                                                                                    |           
|--------------------------------------------------------------------------------------------------- | ----------
|                                                                                                    | Page      
|                                                                                                    |           
|Report of Independent Registered Public Accounting Firm                                             | F-2       
|                                                                                                    |           
|Consolidated Balance Sheets as of December 31, 2004 and 2003                                        | F-3       
|                                                                                                    |           
|Consolidated Statements of Operations for the years ended December
  31, 2004, 2003 and 2002        | F-4       
|                                                                                                    |           
|Statement of Changes in Shareholders Equity for the years ended
  December 31, 2004, 2003 and 2002 | F-5       
|                                                                                                    |           
|Consolidated Statements of Cash Flows for the years ended December
  31, 2004, 2003 and 2002        | F-6  F-7 
|                                                                                                    |           
|Notes to Consolidated Financial Statements                                                          | F-8  F-49

---

---



Report of Independent Registered Public Accounting
Firm
To the Shareholders of B.V.R. Systems (1998) Ltd.

We have audited the accompanying consolidated balance sheets of B.V.R.
Systems (1998) Ltd. (the Company) and its subsidiary as of December 31, 2004 and
2003, and the related consolidated statements of operations, changes in
shareholders equity and cash flows for each of the years in the three-year
period ended December 31, 2004. These consolidated financial statements are the
responsibility of the Companys Board of Directors and of its Management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.

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

In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position
of the Company and its subsidiary as of December 31, 2004 and 2003, and the
consolidated results of operations, changes in shareholders equity and cash
flows for each of the years in the three-year period ended December 31, 2004,
in conformity with accounting principles generally accepted in Israel.

Accounting principles generally accepted in Israel vary in certain
significant respects from accounting principles generally accepted in the
United States of America. Information relating to the nature and effect of such
differences is presented in Note 24 to the consolidated financial statements.

Somekh Chaikin
Certified Public Accountants (Isr.)
Member Firm of KPMG International

March 31, 2005

Tel Aviv, Israel

---

---



|                                             
|---------------------------------------------
|B.V.R. Systems (1998) Ltd.                   
|                                             
|Consolidated Balance Sheets as of December 31
|                                             
|                                             

|                                       |  |      |  |               |  |               |  |  |        | 
|-------------------------------------- |  | ---- |  | ------------- |  | ------------- |  |  | ------ | 
|                                       |  |      |  | 2004          |  | 2003          | 
|                                       |  |      |  |               |  |               | 
|                                       |  | Note |  | US$ thousands |  | US$ thousands | 
|                                       |  |      |  |               |  |               | 
|                                      
|Assets                                 |  |      |  |               |  |               |  |  |        | 
|                                       |  |      |  |               |  |               |  |  |        | 
|Current assets                         |  |      |  |               |  |               |  |  |        | 
|Cash and cash equivalents              |  | 3    |  |               |  | 2,664         |  |  | 1,627  | 
|Restricted bank deposits               |  | 4    |  |               |  | 2,563         |  |  | -      | 
|Trade receivables                      |  | 5    |  |               |  | 3,884         |  |  | 4,094  | 
|Work in progress                       |  | 6    |  |               |  | 46            |  |  | 102    | 
|Other receivables and prepaid expenses |  | 7    |  |               |  | 389           |  |  | 763    | 
|Inventories                            |  | 8    |  |               |  | 2,175         |  |  | 2,339  | 
|                                       |  |      |  |               |  |               |  |  |        | 
|                                       |  |      |  |               |  |               |  |  |        | 
|Total current assets                   |  |      |  |               |  | 11,721        |  |  | 8,925  | 
|                                       |  |      |  |               |  |               |  |  |        | 
|                                       |  |      |  |               |  |               |  |  |        | 
|Investments and loans                  |  | 9    |  |               |  | 1,114         |  |  | 1,318  | 
|                                       |  |      |  |               |  |               |  |  |        | 
|                                       |  |      |  |               |  |               |  |  |        | 
|Fixed assets                           |  | 10   |  |               |  |               |  |  |        | 
|Cost                                   |  |      |  |               |  | 9,712         |  |  | 9,538  | 
|Less - accumulated depreciation        |  |      |  |               |  | 8,864         |  |  | 8,378  | 
|                                       |  |      |  |               |  |               |  |  |        | 
|                                       |  |      |  |               |  |               |  |  |        | 
|Fixed assets, net                      |  |      |  |               |  | 848           |  |  | 1,160  | 
|                                       |  |      |  |               |  |               |  |  |        | 
|                                       |  |      |  |               |  |               |  |  |        | 
|Total assets                           |  |      |  |               |  | 13,683        |  |  | 11,403 | 
|                                       |  |      |  |               |  |               |  |  |        | 

|                                                 |  |                                                        |  |                    
|------------------------------------------------ |  | ------------------------------------------------------ |  | -------------------
|                                                 |  |                                                        |  |                    
|Aviv Tzidon
  Chairman of the Board of Directors |  | Ilan Gillies
  President and Chief
  Executive Officer |  | Reuven Shahar
  CFO

Approval date of the financial statements:  March 31, 2005

---

---



|B.V.R. Systems (1998) Ltd.
|--------------------------
|                          
|                          
|                          
|                          

|                                                                                                                                                                                             |  |      |  |               |  |               |   |  |         |  
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ---- |  | ------------- |  | ------------- | - |  | ------- | -
|                                                                                                                                                                                             |  |      |  | 2004          |  | 2003          |  
|                                                                                                                                                                                             |  |      |  |               |  |               |  
|                                                                                                                                                                                             |  | Note |  | US$ thousands |  | US$ thousands |  
|                                                                                                                                                                                             |  |      |  |               |  |               |  
|                                                                                                                                                                                            
|Liabilities and shareholders
equity                                                                                                                                                         |  |      |  |               |  |               |   |  |         |  
|                                                                                                                                                                                             |  |      |  |               |  |               |   |  |         |  
|Current liabilities                                                                                                                                                                          |  |      |  |               |  |               |   |  |         |  
|Short-term bank credit                                                                                                                                                                       |  | 11   |  |               |  | 517           |   |  | 10,116  |  
|Current maturities of long-term loans from
  former related parties                                                                                                                          |  | 16   |  |               |  | 120           |   |  | -       |  
|Trade payables                                                                                                                                                                               |  | 12   |  |               |  | 2,204         |   |  | 3,268   |  
|Excess of advances from customers over
  amounts recognized as revenue                                                                                                                       |  | 13   |  |               |  | 3,279         |   |  | 3,586   |  
|Other payables and accrued expenses                                                                                                                                                          |  | 14   |  |               |  | 2,852         |   |  | 3,118   |  
|Short-term loan from related party                                                                                                                                                           |  | 15   |  |               |  | -             |   |  | 430     |  
|                                                                                                                                                                                             |  |      |  |               |  |               |   |  |         |  
|                                                                                                                                                                                             |  |      |  |               |  |               |   |  |         |  
|Total current liabilities                                                                                                                                                                    |  |      |  |               |  | 8,972         |   |  | 20,518  |  
|                                                                                                                                                                                             |  |      |  |               |  |               |   |  |         |  
|                                                                                                                                                                                             |  |      |  |               |  |               |   |  |         |  
|Long-term liabilities                                                                                                                                                                        |  |      |  |               |  |               |   |  |         |  
|Long-term loans                                                                                                                                                                              |  | 16   |  |               |  | 1,033         |   |  | 601     |  
|Liability for employee severance benefits,
  net                                                                                                                                             |  | 17   |  |               |  | 69            |   |  | 460     |  
|                                                                                                                                                                                             |  |      |  |               |  |               |   |  |         |  
|                                                                                                                                                                                             |  |      |  |               |  |               |   |  |         |  
|Total long-term liabilities                                                                                                                                                                  |  |      |  |               |  | 1,102         |   |  | 1,061   |  
|                                                                                                                                                                                             |  |      |  |               |  |               |   |  |         |  
|                                                                                                                                                                                             |  |      |  |               |  |               |   |  |         |  
|Commitments and contingencies                                                                                                                                                                |  | 19   |  |               |  |               |   |  |         |  
|                                                                                                                                                                                             |  |      |  |               |  |               |   |  |         |  
|                                                                                                                                                                                             |  |      |  |               |  |               |   |  |         |  
|Shareholders equity (deficit)                                                                                                                                                               |  | 18   |  |               |  |               |   |  |         |  
|Share capital:                                                                                                                                                                               |  |      |  |               |  | 21,247        |   |  | 2,529   |  
|Ordinary shares, NIS 1.00 par value
  (20,000,000 and 200,000,000 shares authorized;10,660,874 and 95,400,210
  shares issued and fully paid as at December 31, 2003 and 2004, respectively) |  |      |  |               |  |               |   |  |         |  
|Additional paid-in capital                                                                                                                                                                   |  |      |  |               |  | 17,700        |   |  | 21,408  |  
|Accumulated deficit                                                                                                                                                                          |  |      |  |               |  | (35,338       | ) |  | (34,113 | )
|                                                                                                                                                                                             |  |      |  |               |  |               |   |  |         |  
|                                                                                                                                                                                             |  |      |  |               |  |               |   |  |         |  
|                                                                                                                                                                                             |  |      |  |               |  | 3,609         |   |  | (10,176 | )
|                                                                                                                                                                                             |  |      |  |               |  |               |   |  |         |  
|                                                                                                                                                                                             |  |      |  |               |  |               |   |  |         |  
|Total liabilities and shareholders
equity                                                                                                                                                   |  |      |  |               |  | 13,683        |   |  | 11,403  |  
|                                                                                                                                                                                             |  |      |  |               |  |               |   |  |         |  

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

F-3

---

---



|                                                                     
|---------------------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                                           
|                                                                     
|Consolidated Statements of Operations for the years ended December 31
|                                                                     
|                                                                     

|                                                                                                                                                                    |  |      |  |               |  |         |   |      |        |   |  |        |  
|------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ---- |  | ------------- |  | ------- | - | ---- | ------ | - |  | ------ | -
|                                                                                                                                                                    |  |      |  | 2004          |  | 2003    |   | 2002 |       
|                                                                                                                                                                    |  |      |  |               |  |         |   |      |       
|                                                                                                                                                                    |  | Note |  | US$ thousands | 
|                                                                                                                                                                    |  |      |  |               | 
|Income from sales                                                                                                                                                   |  |      |  |               |  | 12,684  |   |      | 13,218 |   |  | 26,295 |  
|Income from royalties and commissions                                                                                                                               |  | 22B  |  |               |  | -       |   |      | 1,249  |   |  | 1,995  |  
|                                                                                                                                                                    |  |      |  |               |  |         |   |      |        |   |  |        |  
|                                                                                                                                                                    |  |      |  |               |  |         |   |      |        |   |  |        |  
|Total income                                                                                                                                                        |  | 22A  |  |               |  | 12,684  |   |      | 14,467 |   |  | 28,290 |  
|                                                                                                                                                                    |  |      |  |               |  |         |   |      |        |   |  |        |  
|Cost of sales                                                                                                                                                       |  | 22C  |  |               |  | 10,231  |   |      | 13,625 |   |  | 23,715 |  
|                                                                                                                                                                    |  |      |  |               |  |         |   |      |        |   |  |        |  
|                                                                                                                                                                    |  |      |  |               |  |         |   |      |        |   |  |        |  
|Gross profit                                                                                                                                                        |  |      |  |               |  | 2,453   |   |      | 842    |   |  | 4,575  |  
|                                                                                                                                                                    |  |      |  |               |  |         |   |      |        |   |  |        |  
|                                                                                                                                                                    |  |      |  |               |  |         |   |      |        |   |  |        |  
|Operating expenses:                                                                                                                                                 |  |      |  |               |  |         |   |      |        |   |  |        |  
|Research and development                                                                                                                                            |  |      |  |               |  | 294     |   |      | 693    |   |  | 1,554  |  
|Selling and marketing                                                                                                                                               |  |      |  |               |  | 1,139   |   |      | 1,778  |   |  | 2,363  |  
|General and administrative                                                                                                                                          |  |      |  |               |  | 1,822   |   |      | 4,016  |   |  | 4,577  |  
|                                                                                                                                                                    |  |      |  |               |  |         |   |      |        |   |  |        |  
|                                                                                                                                                                    |  |      |  |               |  |         |   |      |        |   |  |        |  
|Operating loss                                                                                                                                                      |  |      |  |               |  | (802    | ) |      | (5,645 | ) |  | (3,919 | )
|                                                                                                                                                                    |  |      |  |               |  |         |   |      |        |   |  |        |  
|Financing expenses, net                                                                                                                                             |  | 22D  |  |               |  | (496    | ) |      | (707   | ) |  | (855   | )
|Other income (expenses), net                                                                                                                                        |  | 22E  |  |               |  | 192     |   |      | 55     |   |  | (140   | )
|                                                                                                                                                                    |  |      |  |               |  |         |   |      |        |   |  |        |  
|                                                                                                                                                                    |  |      |  |               |  |         |   |      |        |   |  |        |  
|Loss before income taxes                                                                                                                                            |  |      |  |               |  | (1,106  | ) |      | (6,297 | ) |  | (4,914 | )
|Income tax expense                                                                                                                                                  |  | 20   |  |               |  | (119    | ) |      | (249   | ) |  | (878   | )
|                                                                                                                                                                    |  |      |  |               |  |         |   |      |        |   |  |        |  
|                                                                                                                                                                    |  |      |  |               |  |         |   |      |        |   |  |        |  
|Net loss for the year                                                                                                                                               |  |      |  |               |  | (1,225  | ) |      | (6,546 | ) |  | (5,792 | )
|                                                                                                                                                                    |  |      |  |               |  |         |   |      |        |   |  |        |  
|Loss per share:                                                                                                                                                     |  |      |  |               |  |         |   |      |        |   |  |        |  
|Basic and diluted loss per share (in US $)                                                                                                                          |  |      |  |               |  | (0.01   | ) |      | (0.61  | ) |  | (0.54  | )
|                                                                                                                                                                    |  |      |  |               |  |         |   |      |        |   |  |        |  
|                                                                                                                                                                    |  |      |  |               |  |         |   |      |        |   |  |        |  
|Weighted-average number of Ordinary Shares
  of nominal NIS 1.00 par value outstanding (in thousands) used in calculation
  of the basic and diluted loss per share |  |      |  |               |  | 106,342 |   |      | 10,661 |   |  | 10,660 |  
|                                                                                                                                                                    |  |      |  |               |  |         |   |      |        |   |  |        |  

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

F-4

---

---



|                                              
|----------------------------------------------
|B.V.R. Systems (1998) Ltd.                    
|                                              
|Statement of Changes in Shareholders
  Equity
|                                              
|                                              

|                                |  |                                                   |            |                 |  |                              |     |                                               |        |                                            |  |         |   |  |         |  
|------------------------------- |  | ------------------------------------------------- | ---------- | --------------- |  | ---------------------------- | --- | --------------------------------------------- | ------ | ------------------------------------------ |  | ------- | - |  | ------- | -
|                                |  | Number of
  Ordinary Shares
  (NIS 1
  par value) |            | Share
  capital |  | Additional
  paid-in capital |     | Retained
  earnings
  (accumulated
  deficit) |        | Total
  shareholders
  equity
  (deficit) | 
|                                |  |                                                   |            |                 |  |                              |     |                                               |        |                                            | 
|                                |  |                                                   |            | US$ thousands   |  | US$ thousands                |     | US$
  thousands                               |        | US$
  thousands                            | 
|                                |  |                                                   |            |                 |  |                              |     |                                               |        |                                            | 
|                                |  |                                                   |            |                 |  |                              |     |                                               |        |                                            |  |         |   |  |         |  
|Balance as at January 1, 2002   |  |                                                   | 10,659,701 |                 |  | 2,529                        |     |                                               | 21,408 |                                            |  | (21,775 | ) |  | 2,162   |  
|                                |  |                                                   |            |                 |  |                              |     |                                               |        |                                            |  |         |   |  |         |  
|Changes during 2002             |  |                                                   |            |                 |  |                              |     |                                               |        |                                            |  |         |   |  |         |  
|Issuance of Ordinary Shares     |  |                                                   | 1,173      |                 |  | -                            | (1) |                                               | -      | (1)                                        |  | -       |   |  | -       |  
|Net loss for the year           |  |                                                   | -          |                 |  | -                            |     |                                               | -      |                                            |  | (5,792  | ) |  | (5,792  | )
|                                |  |                                                   |            |                 |  |                              |     |                                               |        |                                            |  |         |   |  |         |  
|                                |  |                                                   |            |                 |  |                              |     |                                               |        |                                            |  |         |   |  |         |  
|Balance as at December 31, 2002 |  |                                                   | 10,660,874 |                 |  | 2,529                        |     |                                               | 21,408 |                                            |  | (27,567 | ) |  | (3,630  | )
|                                |  |                                                   |            |                 |  |                              |     |                                               |        |                                            |  |         |   |  |         |  
|Changes during 2003             |  |                                                   |            |                 |  |                              |     |                                               |        |                                            |  |         |   |  |         |  
|Net loss for the year           |  |                                                   | -          |                 |  | -                            |     |                                               | -      |                                            |  | (6,546  | ) |  | (6,546  | )
|                                |  |                                                   |            |                 |  |                              |     |                                               |        |                                            |  |         |   |  |         |  
|                                |  |                                                   |            |                 |  |                              |     |                                               |        |                                            |  |         |   |  |         |  
|Balance as at December 31, 2003 |  |                                                   | 10,660,874 |                 |  | 2,529                        |     |                                               | 21,408 |                                            |  | (34,113 | ) |  | (10,176 | )
|                                |  |                                                   |            |                 |  |                              |     |                                               |        |                                            |  |         |   |  |         |  
|Changes during 2004             |  |                                                   |            |                 |  |                              |     |                                               |        |                                            |  |         |   |  |         |  
|                                |  |                                                   |            |                 |  |                              |     |                                               |        |                                            |  |         |   |  |         |  
|Issuance of Ordinary Shares     |  |                                                   | 67,072,669 |                 |  | 14,789                       |     |                                               | (2,920 | )(2)                                       |  | -       |   |  | 11,869  |  
|Exercise of stock options       |  |                                                   | 17,666,667 |                 |  | 3,929                        |     |                                               | (788   | )(2)                                       |  | -       |   |  | 3,141   |  
|Net loss for the year           |  |                                                   | -          |                 |  | -                            |     |                                               | -      |                                            |  | (1,225  | ) |  | (1,225  | )
|                                |  |                                                   |            |                 |  |                              |     |                                               |        |                                            |  |         |   |  |         |  
|                                |  |                                                   |            |                 |  |                              |     |                                               |        |                                            |  |         |   |  |         |  
|Balance as at December 31, 2004 |  |                                                   | 95,400,210 |                 |  | 21,247                       |     |                                               | 17,700 |                                            |  | (35,338 | ) |  | 3,609   |  
|                                |  |                                                   |            |                 |  |                              |     |                                               |        |                                            |  |         |   |  |         |  

|    |                                                 
|--- | ------------------------------------------------
|(1) | Represents
  an amount less than US$ 1 thousand.
|(2) | Net of
  issuance expenses of US$ 243 thousand. 

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

F-5

---

---



|                                     
|-------------------------------------
|B.V.R. Systems (1998) Ltd.           
|                                     
|Consolidated Statements of Cash Flows
|                                     
|                                     

|                                                                                                    |  |                        |        |      |  |        |   |  |        |  
|--------------------------------------------------------------------------------------------------- |  | ---------------------- | ------ | ---- |  | ------ | - |  | ------ | -
|                                                                                                    |  | Year ended December 31 |       
|                                                                                                    |  |                        |       
|                                                                                                    |  | 2004                   |        | 2003 |  | 2002   |  
|                                                                                                    |  |                        |        |      |  |        |  
|                                                                                                    |  | US$ thousands          |       
|                                                                                                    |  |                        |       
|                                                                                                    |  |                        |        |      |  |        |   |  |        |  
|Cash flows from operating activities                                                                |  |                        |        |      |  |        |   |  |        |  
|Net loss for the year                                                                               |  |                        | (1,225 | )    |  | (6,546 | ) |  | (5,792 | )
|Adjustments to reconcile net loss to net
  cash flow provided by (used in) operating activities (A) |  |                        | (727   | )    |  | 7,042  |   |  | 2,728  |  
|                                                                                                    |  |                        |        |      |  |        |   |  |        |  
|                                                                                                    |  |                        |        |      |  |        |   |  |        |  
|Net cash provided by (used in) operating
  activities                                               |  |                        | (1,952 | )    |  | 496    |   |  | (3,064 | )
|                                                                                                    |  |                        |        |      |  |        |   |  |        |  
|                                                                                                    |  |                        |        |      |  |        |   |  |        |  
|Cash flows from investing activities                                                                |  |                        |        |      |  |        |   |  |        |  
|Purchases of fixed assets                                                                           |  |                        | (113   | )    |  | (171   | ) |  | (535   | )
|Proceeds from sale of fixed assets                                                                  |  |                        | -      |      |  | 8      |   |  | 3      |  
|Increase in long-term deposits                                                                      |  |                        | -      |      |  | (2     | ) |  | (8     | )
|Proceeds from sale of available for sale
  securities                                               |  |                        | -      |      |  | 78     |   |  | -      |  
|Withdrawal of long-term deposits                                                                    |  |                        | -      |      |  | 10     |   |  | -      |  
|Decrease (increase) in restricted bank
  deposits                                                   |  |                        | (2,563 | )    |  | 4,266  |   |  | (13    | )
|Changes in loans to employees                                                                       |  |                        | (9     | )    |  | 18     |   |  | 6      |  
|                                                                                                    |  |                        |        |      |  |        |   |  |        |  
|                                                                                                    |  |                        |        |      |  |        |   |  |        |  
|Net cash provided by (used in) investing
  activities                                               |  |                        | (2,685 | )    |  | 4,207  |   |  | (547   | )
|                                                                                                    |  |                        |        |      |  |        |   |  |        |  
|                                                                                                    |  |                        |        |      |  |        |   |  |        |  
|Cash flows from financing activities                                                                |  |                        |        |      |  |        |   |  |        |  
|Short-term bank credit, net                                                                         |  |                        | (6,566 | )    |  | (4,967 | ) |  | 3,081  |  
|Receipt (Repayment) of short-term loan from
  related party                                         |  |                        | (430   | )    |  | 430    |   |  | -      |  
|Receipt (Repayment) of long-term loans from
  related parties                                       |  |                        | (204   | )    |  | 601    |   |  | -      |  
|Issuance of Ordinary Shares                                                                         |  |                        | 9,733  |      |  | -      |   |  | -      |  
|Exercise of stock options                                                                           |  |                        | 3,141  |      |  | -      |   |  | -      |  
|                                                                                                    |  |                        |        |      |  |        |   |  |        |  
|                                                                                                    |  |                        |        |      |  |        |   |  |        |  
|Net cash provided by (used in) financing
  activities                                               |  |                        | 5,674  |      |  | (3,936 | ) |  | 3,081  |  
|                                                                                                    |  |                        |        |      |  |        |   |  |        |  
|                                                                                                    |  |                        |        |      |  |        |   |  |        |  
|Increase (decrease) in cash and cash
  equivalents                                                  |  |                        | 1,037  |      |  | 767    |   |  | (530   | )
|Cash and cash equivalents at the beginning
  of the year                                            |  |                        | 1,627  |      |  | 860    |   |  | 1,390  |  
|                                                                                                    |  |                        |        |      |  |        |   |  |        |  
|                                                                                                    |  |                        |        |      |  |        |   |  |        |  
|Cash and cash equivalents at the end of the
  year                                                  |  |                        | 2,664  |      |  | 1,627  |   |  | 860    |  
|                                                                                                    |  |                        |        |      |  |        |   |  |        |  

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

F-6

---

---



|                                                
|------------------------------------------------
|B.V.R. Systems (1998) Ltd.                      
|                                                
|Consolidated Statements of Cash Flows
  (contd)
|                                                
|                                                

|                                                                                             |                                                                                                                                  |  |                        |       |      |        |      |  |        |       | 
|-------------------------------------------------------------------------------------------- | -------------------------------------------------------------------------------------------------------------------------------- |  | ---------------------- | ----- | ---- | ------ | ---- |  | ------ | ----- | 
|                                                                                             |                                                                                                                                  |  | Year ended December 31 |      
|                                                                                             |                                                                                                                                  |  |                        |      
|                                                                                             |                                                                                                                                  |  | 2004                   |       | 2003 |        | 2002 | 
|                                                                                             |                                                                                                                                  |  |                        |       |      |        |      | 
|                                                                                             |                                                                                                                                  |  | US$ thousands          |      
|                                                                                             |                                                                                                                                  |  |                        |      
|                                                                                             |                                                                                                                                  |  |                        |       |      |        |      |  |        |       | 
|A.                                                                                           | Adjustments to reconcile net income to net
  cash provided by (used in) operating activities                                     |  |                        |       |      |        |      |  |        |       | 
|                                                                                             |                                                                                                                                  |  |                        |       |      |        |      |  |        |       | 
|Income and expenses not involving cash
  flows:                                              |                                                                                                                                  |  |                        |       |      |        |      |  |        |      
|Loss (gain) on sale of fixed assets                                                          |                                                                                                                                  |  | -                      |       |      | 5      |      |  | (1     | )    
|Gain on sale of available for sale
  securities                                              |                                                                                                                                  |  | -                      |       |      | (47    | )    |  | -      |      
|Erosion of long-term deposits                                                                |                                                                                                                                  |  | -                      |       |      | -      |      |  | 28     |      
|Depreciation and amortization                                                                |                                                                                                                                  |  | 690                    |       |      | 659    |      |  | 882    |      
|Decrease in liability for employee
  severance benefits, net                                 |                                                                                                                                  |  | (391                   | )     |      | (49    | )    |  | (75    | )    
|Forgiveness of debt                                                                          |                                                                                                                                  |  | (177                   | )     |      | -      |      |  | -      |      
|Marketing services in exchange for shares
  issuance                                         |                                                                                                                                  |  | 36                     |       |      | -      |      |  | -      |      
|Write down of investment in marketable
  securities                                          |                                                                                                                                  |  | -                      |       |      | -      |      |  | 141    |      
|Deferred income taxes, net                                                                   |                                                                                                                                  |  | -                      |       |      | -      |      |  | 318    |      
|                                                                                             |                                                                                                                                  |  |                        |       |      |        |      |  |        |       | 
|                                                                                             |                                                                                                                                  |  |                        | 158   |      |        | 568  |  |        | 1,293 | 
|                                                                                             |                                                                                                                                  |  |                        |       |      |        |      |  |        |       | 
|                                                                                             |                                                                                                                                  |  |                        |       |      |        |      |  |        |       | 
|Changes in operating asset and liability
  items:                                            |                                                                                                                                  |  |                        |       |      |        |      |  |        |      
|Decrease (increase) in trade receivables                                                     |                                                                                                                                  |  | (310                   | )     |      | 11,606 |      |  | 4,449  |      
|Decrease (increase) in other receivables
  and prepaid expenses                              |                                                                                                                                  |  | 383                    |       |      | 46     |      |  | (160   | )    
|Decrease (increase) in work in progress                                                      |                                                                                                                                  |  | 56                     |       |      | 226    |      |  | (309   | )    
|Increase (decrease) in excess of advances
  from customers over amount recognized as revenue |                                                                                                                                  |  | (307                   | )     |      | 2,296  |      |  | (2,607 | )    
|Decrease (increase) in inventory                                                             |                                                                                                                                  |  | 164                    |       |      | (1,815 | )    |  | (441   | )    
|Decrease in trade payables                                                                   |                                                                                                                                  |  | (1,064                 | )     |      | (5,198 | )    |  | (114   | )    
|(Decrease) increase in other payables and
  accrued expenses                                 |                                                                                                                                  |  | (327                   | )     |      | (1,207 | )    |  | 97     |      
|Decrease in non-current receivables                                                          |                                                                                                                                  |  | 520                    |       |      | 520    |      |  | 520    |      
|                                                                                             |                                                                                                                                  |  |                        |       |      |        |      |  |        |      
|                                                                                             |                                                                                                                                  |  | (885                   | )     |      | 6,474  |      |  | 1,435  |      
|                                                                                             |                                                                                                                                  |  |                        |       |      |        |      |  |        |      
|                                                                                             |                                                                                                                                  |  |                        |       |      |        |      |  |        |      
|                                                                                             |                                                                                                                                  |  | (727                   | )     |      | 7,042  |      |  | 2,728  |      
|                                                                                             |                                                                                                                                  |  |                        |       |      |        |      |  |        |      
|B.                                                                                           | Non-cash transactions                                                                                                            |  |                        |       |      |        |      |  |        |       | 
|                                                                                             | Accounts
  payable in respect of fixed assets                                                                                    |  |                        | 61    |      |        | 5    |  |        | 62    | 
|                                                                                             |                                                                                                                                  |  |                        |       |      |        |      |  |        |       | 
|                                                                                             |                                                                                                                                  |  |                        |       |      |        |      |  |        |       | 
|                                                                                             | Exchange of
  short-term bank credit and long-term loan from related parties into share
  capital and additional paid-in capital |  |                        | 2,100 |      |        | -    |  |        | -     | 
|                                                                                             |                                                                                                                                  |  |                        |       |      |        |      |  |        |       | 

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

F-7

---

---



|                                                           
|-----------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                                 
|                                                           
|Notes to the Financial Statements as of
  December 31, 2004
|                                                           

|           |         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|---------- | ------- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Note 1    | General
|           |         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|           | A.      | B.V.R.
  Technologies Limited (B.V.R.), an Israeli company formed in 1986, has been
  engaged in the development, manufacture and marketing of advanced training
  and computer-based simulation systems for military applications, and through
  its subsidiary, of commercial applications in the fields of
  telecommunications and entertainment based on virtual reality. On October 23,
  1998, B.V.R. executed a Plan of Arrangement (the Plan or the spin off
  plan) under Sections 233 and 234 of the Israeli Companies Ordinance,
  pursuant to which B.V.R. was divided into two separate companies:  (i) B.V.R. Systems (1998) Ltd. (The
  Company), which owns and operates all of what was the defense-related
  business of B.V.R. and (ii) B.V.R. itself, which owns and operates all of its
  existing commercial businesses.  The
  Company, incorporated in Israel, was formed on January 6, 1998 to receive all
  of the assets and liabilities of the defense-related business of B.V.R., in
  accordance with the terms of the Plan.
|           |         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|           |         | The
  principal markets for the Companys products are mainly Europe and the Far
  East. Most of the Companys customers are either government institutions or
  entities controlled by governments. Three, one and three customers provided
  approximately 73%, 58% and 86% of the Companys revenues during 2004, 2003
  and 2002, respectively.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|           |         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|           |         | The
  Companys business is exposed to numerous risks including product
  development, technological advancement and the introduction of these products
  to the worlds markets. The companies engaged in this field are required to
  invest significant resources and constantly update products. The future
  success of the Company is dependent upon the technological sophistication,
  price and quality of its products, and the provision of solutions to meet customers
  needs in comparison to competitors.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|           | B.      | As part of
  the Plan, the Company issued Ordinary Shares to the shareholders of B.V.R. in
  a manner so that each shareholder of B.V.R. received a quantity of the
  Companys shares equal to the number of B.V.R.s shares held.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|           |         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|           | C.      | In December
  2003, Chun Holding L.P. (Chun), a corporation controlled by Aviv Tzidon,
  Aeronautics Defense Systems Ltd. and iTS Technologies Pte Ltd. gained control
  of the Company by purchasing through tender offer the Companys shares from
  other shareholders, including Elisra Electronic Systems Ltd. (Elisra), the
  former controlling company.  As of December 31, 2004, Chun holds approximately
  60.95% of the outstanding shares of the Company.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|           | D.      | During 2004,
  the Companys income totaled only US$ 12.7 million, and it incurred an
  operating loss of US$ 0.8 million, a net loss of US$ 1.2 million and negative
  cash flows from operating activities of US$ 2.1 million.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|           |         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|           |         | At December
  31, 2004, the Company has a positive working capital of US$ 2.8 million, and
  cash balance of US$ 2.7 million. In addition, during the year ended December
  31, 2004, the volume of orders obtained by the Company amounted to $ 12.4
  million and the Companys backlog of orders, regarding the portion of
  accumulated amount of contracts for long-term projects which has not yet been
  recognized as income in the statement of operations, was US$ 14.7 million.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|           |         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|           |         | The Company
  is confident that the existing cash balances together with meeting forecasted
  cash flows from operating activities for 2005, as well as obtaining orders
  forecasted in the budget approved by the Board of Directors, will enable it
  to meet its anticipated commitments for the 12 months following the approval
  date of these financial statements.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        

F-8

---

---



|                                                           
|-----------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                                 
|                                                           
|Notes to the Financial Statements as of
  December 31, 2004
|                                                           

|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                                                                                                                                                                                                                       
|---------- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Note 2    | Significant
  Accounting Policies                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                                                                                                                                                                                                                       
|           | The financial statements have been prepared in accordance with
  generally accepted accounting principles in Israel.                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                                                                                                                                                                                                                       
|           | A.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             | Use of estimates                                                                                                                                                                                                                                                                                                                                                                                      
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                                                                                                                                                                                                                       
|           | The preparation of financial statements in conformity with generally
  accepted accounting principles requires management to make estimates and
  assumptions that affect the reported amounts of assets and liabilities and disclosure
  of contingent assets and liabilities at the date of the financial statements
  and the reported amount of revenues and expenses during the reporting period.
  These are managements best estimates based on experience and historical
  data.  Actual results could differ
  from those estimates.
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                                                                                                                                                                                                                       
|           | B.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             | Financial statements                                                                                                                                                                                                                                                                                                                                                                                  
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                                                                                                                                                                                                                       
|           | 1.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             | Financial statements in U.S. dollars                                                                                                                                                                                                                                                                                                                                                                  
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                                                                                                                                                                                                                       
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                | The majority of the Companys sales are made outside Israel in U.S.
  dollars, and a substantial portion of the Companys costs are incurred in
  U.S. dollars. Accordingly, the Company has determined that the U.S. dollar is
  the currency of its primary economic environment and thus its functional
  currency.  The Companys reporting
  currency is also the U.S. dollar.                   
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                                                                                                                                                                                                                       
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                | The Companys transactions and balances denominated in U.S. dollars
  are presented at their original amounts. Transactions denominated in
  currencies other than U.S. dollars are translated into U.S. dollars using
  current exchange rates.  All foreign
  currency transaction gains and losses are reflected in the Statements of
  Operations as financial income or expenses, as appropriate.
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                                                                                                                                                                                                                       
|           | 2.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             | The financial statements of the Companys subsidiary are remeasured
  into the Companys functional currency in the following manner:                                                                                                                                                                                                                                                                 
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                                                                                                                                                                                                                       
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                | Non-monetary balance sheet items - according to the historical
  exchange rates prevailing on the date of transaction.                                                                                                                                                                                                                                                                                
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                                                                                                                                                                                                                       
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                | Monetary balance sheet items - according to exchange rates prevailing
  at the balance sheet date.                                                                                                                                                                                                                                                                                                    
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                                                                                                                                                                                                                       
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                | Items in the statements of income - according to average exchange
  rates.                                                                                                                                                                                                                                                                                                                            
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                                                                                                                                                                                                                       
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                | Translation gains or losses are recorded in the statements of
  operations.                                                                                                                                                                                                                                                                                                                           
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                                                                                                                                                                                                                       
|           | C.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             | Principles of consolidation                                                                                                                                                                                                                                                                                                                                                                           
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                                                                                                                                                                                                                       
|           | The
  consolidated financial statements include the accounts of the Company and its
  subsidiary B.V.R.S. Pacific Pte. Ltd. a wholly owned subsidiary, (Pacific).
  Inter-company transactions and balances, including profits from inter-company
  sales not yet realized outside the group, have been eliminated in the
  consolidation.                                                                                                                                                                                                  

F-9

---

---



|                                                           
|-----------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                                 
|                                                           
|Notes to the Financial Statements as of
  December 31, 2004
|                                                           

|           |                                                                                                                                                           |                 
|---------- | --------------------------------------------------------------------------------------------------------------------------------------------------------- | ----------------
|Note 2    | Significant
  Accounting Policies (contd)                                                                                                               
|           |                                                                                                                                                          
|           | D.                                                                                                                                                        | Cash equivalents
|           |                                                                                                                                                           |                 
|           | Cash
  equivalents are short-term, highly liquid investments with original
  maturities of three months or less and that are readily convertible to cash.
|           |                                                                                                                                                           |                 
|           | E.                                                                                                                                                        | Inventories     
|           |                                                                                                                                                           |                 
|           | Inventories
  are stated at the lower of cost or market value. Cost is determined as
  follows:                                                          

| |                                                                                                                                        |                                                                      
| | -------------------------------------------------------------------------------------------------------------------------------------- | ---------------------------------------------------------------------
| | Raw
  materials and components                                                                                                         |  On the
  first-in, first-out method                              
| |                                                                                                                                        |                                                                      
| | Finished
  products:                                                                                                                   |                                                                      
| |                                                                                                                                        |                                                                      
| | Raw
  materials and components                                                                                                         |  On the
  first-in, first-out method                              
| |                                                                                                                                        |                                                                      
| | Labor and
  overhead component                                                                                                         |  On the
  basis of direct and allocable indirect manufacturing cost.
| |                                                                                                                                        |                                                                      
| | Inventory
  held for rent is presented in the long-term investments category and is
  depreciated based on its economic useful life.

| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                             
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | --------------------------------------------
| | F.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             | Work in progress and advances from customers
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                             
| | Work in
  progress is stated at cost which includes direct identified costs and
  indirect joint costs. Direct costs are charged to a project by identification
  and indirect joint costs are divided between projects based on the ratio of
  costs.  The net balance of costs
  stated in the balance sheet as part of current assets is after the deduction
  of those accumulated costs, which were included in the statement of
  operations on the basis of the percentage of completion (see Note 2J).
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                             
| | The excess
  of accumulated revenues included in the statement of operations over advances
  from customers in respect of the completed part of the project is classified
  as trade receivables.                                                                                                                                                                                                                                                                                                             
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                             
| | Excess
  advances received from customers, after deduction of revenues included in the
  statement of operation by the percentage of completion method, are classified
  as current liabilities.                                                                                                                                                                                                                                                                                                              
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                             
| | G.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             | Provision for doubtful debts                
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                             
| | The
  financial statements include specific provisions for doubtful debts, which,
  in managements opinion, adequately reflect the loss inherent in those
  debts.  Managements determination of
  the adequacy of the provision is based, inter alia, on an evaluation of the
  risk, by considering the available information on the financial position of
  the debtors, the volume of their business and an evaluation of the security
  received from them.                                            
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                             
| | Doubtful debts
  which, in the opinion of management, are unlikely to be collected, are
  written off, based either on a management resolution or if they exceed a
  specified amount.                                                                                                                                                                                                                                                                                                                        

F-10

---

---



|                                                           
|-----------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                                 
|                                                           
|Notes to the Financial Statements as of
  December 31, 2004
|                                                           

|           |                                                                                                                                                                             |             
|---------- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ------------
|Note 2    | Significant
  Accounting Policies (contd)                                                                                                                                 
|           |                                                                                                                                                                            
|           | H.                                                                                                                                                                          | Fixed assets
|           |                                                                                                                                                                             |             
|           | Fixed assets
  are stated at cost less accumulated depreciation. Depreciation is calculated
  using the straight-line method over the estimated useful lives of the assets.
|           |                                                                                                                                                                             |             
|           | Annual rates
  of depreciation are as follows:                                                                                                                             

| |                                  |  |   |                            | 
| | -------------------------------- |  | - | -------------------------- | 
| |                                  |  | % |                           
| |                                  |  |   |                           
| | Computers                        |  |   | 20  33.3                  | 
| | Motor
  vehicles                 |  |   | 15                         | 
| | Manufacturing
  equipment        |  |   | 10  15                    | 
| | Office
  furniture and equipment |  |   | 6  15                     | 
| | Leasehold
  improvements         |  |   | Over the term of the lease | 

| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |                         
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------ | ------------------------
| | I.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 | Provision for warranties
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |                         
| | The Company
  provides warranties on sales of systems to certain customers for periods of
  up to 24 months. The provision is computed on the basis of specific
  management evaluations.                                                                                                                                                                                                                                                                                                                                                                         
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |                         
| | J.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 | Revenue recognition     
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |                         
| | The Company
  follows the requirements defined in Israel Accounting Standard No.4 (the
  Standard).  The Standard requires
  that income from the execution of long-term contract work should be
  recognized according to the percentage of completion method. The percentage
  of completion is computed based on the projects total execution costs which
  reflect the progress of its completion, and which mainly include:  salaries, material costs and subcontractor
  charges.                                                                      
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |                         
| | Revenues
  ascribed to each period are the amounts of gross profits, based on the
  percentage of completion multiplied by the total revenue on the contract,
  earned on such contracts during the period plus the costs incurred during the
  period (excluding cost of materials that have not yet been used and costs
  incurred for subcontracted work that is still to be performed).                                                                                                                                                                       
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |                         
| | In
  accordance with the Standard, the accumulated results of project execution
  work are recorded currently. The yearly report of operations from project
  execution work covers the full turnover, including such turnover in respect
  of which an earnings forecast cannot be estimated at the time of reporting,
  but from which it can be determined that the recovery of expenses incurred is
  probable.  In such cases, full
  expenses incurred are currently charged against income at the level of such
  expenses (nil net margin presentation).
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |                         
| | Provisions
  for estimated losses on uncompleted contracts are made in the period in which
  such losses are first determined, in the amount of the estimated loss on the
  entire contract.                                                                                                                                                                                                                                                                                                                                                                      
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |                         
| | Royalty
  revenues are recorded mainly on a cash basis.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |                         
| | As to
  managements estimates and assumptions - see Note 2A above.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               

F-11

---

---



|                                                           
|-----------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                                 
|                                                           
|Notes to the Financial Statements as of
  December 31, 2004
|                                                           

|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |                               
|---------- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ------------------------------
|Note 2    | Significant
  Accounting Policies (contd)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|           | K.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            | Research and development costs
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |                               
|           | Research and
  development costs are charged to the Statement of Operations, as incurred.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |                               
|           | L.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            | Selling and marketing costs   
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |                               
|           | Selling and
  marketing costs which can be identified clearly and unmistakably with the
  individual project and with it alone, are charged to the costs of work in
  progress.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|           | Costs that
  cannot be so identified are charged to selling and marketing expenses in the
  statement of operations.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |                               
|           | M.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            | Income taxes                  
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |                               
|           | Taxes on
  income for all periods presented have been computed on the basis of income
  tax rates applicable to the Company and its subsidiary as a separate
  stand-alone entities.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |                               
|           | The Company accounts
  for income taxes under the liability method of accounting for income
  taxes.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |                               
|           | Under the
  liability method, deferred tax assets and liabilities are determined based on
  differences between financial reporting and tax bases of assets and liabilities
  as well as losses carried forward, and are measured using the prevailing tax
  rates and laws that will be in effect when the differences are expected to be
  utilized. The main factors, in respect of which deferred taxes were not
  calculated is the realization of investment in a subsidiary that management
  intends to retain. Similarly, deferred taxes have not been provided for
  future taxable distribution from a subsidiary, since it is group policy not
  to initiate a distribution of dividend that involves additional tax
  liability.
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |                               
|           | Deferred tax
  assets for future tax benefits from realization are not included where their
  realization is less than reasonable. As such, the Company has recorded a
  valuation allowance in regard of all is tax losses carried forward as well as
  for other temporary differences (see Note 20F).                                                                                                                                                                                                                                                                                                                                                                                                                                     
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |                               
|           | N.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            | Impairment in Value of Assets 
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |                               
|           | The Company
  applies Accounting Standard No. 15 - Impairment in Value of Assets
  (hereinafter - the standard). The standard provides procedures which a
  company must apply in order to ensure that its assets in the consolidated
  balance sheet (to which the standard applies), are not presented at an amount
  which is in excess of their recoverable value, which is the higher of the net
  selling price and the use value (the present value of the estimated future
  cash flows expected to be derived from use and disposal of the asset).                                                                                                                                                                                  

F-12

---

---



|                                                           
|-----------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                                 
|                                                           
|Notes to the Financial Statements as of
  December 31, 2004
|                                                           

|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |                                        
|---------- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ---------------------------------------
|Note 2    | Significant
  Accounting Policies (contd)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|           | N.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       | Impairment in Value of Assets (contd) 
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |                                        
|           | The standard
  applies to all the assets in the consolidated balance sheet, except
  inventory, tax assets and monetary assets (excluding monetary assets which
  are investments in investee companies that are not subsidiaries). In
  addition, the standard provides rules for presentation and disclosure with
  respect to assets whose value has declined. When the value of an asset in the
  consolidated balance sheet is higher than its recoverable value, the company
  recognizes a loss from the impairment in value in the amount of the
  difference between the book value of the asset and its recoverable value. The
  loss thus recognized will be cancelled only in the event of changes occurring
  in the estimates that were used to determine the recoverable value of the
  asset since the date on which the most recent loss from the impairment in
  value was recognized.
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |                                        
|           | O.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       | Basic and diluted loss per share       
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |                                        
|           | Basic loss
  per share is computed based on the weighted average number of Ordinary Shares
  of nominal NIS 1.00 par value outstanding during each year, plus the effect
  of options and warrants outstanding at year-end the exercise of which is
  probable. Diluted loss per share is computed based on the weighted average
  number of Ordinary Shares used for computing the basic loss per share plus
  options and warrants which were not included in the basic loss per share
  calculation and which do not have an anti-dilutive effect.                                                                                                                                                                                                                                                                                                                                                   
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |                                        
|           | P.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       | Accounting for stock-based compensation
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |                                        
|           | Stock options granted to employees and service providers and stock
  issued to service providers                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |                                        
|           | The Company records expenses with respect to stock options granted to
  employees and service providers, that provide similar services to those that
  are provided by employees, in accordance with the intrinsic value method that
  is prescribed by APB 25, Accounting for Stock Issued to Employees.  Shares issued to service providers are
  recorded based on the fair value at the grant date of the shares issued.                                                                                                                                                                                                                                                                                                                                                                                                                                                                            

F-13

---

---



|                                                           
|-----------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                                 
|                                                           
|Notes to the Financial Statements as of
  December 31, 2004
|                                                           

|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |                                                                                               
|---------- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ----------------------------------------------------------------------------------------------
|Note 2    | Significant
  Accounting Policies (contd)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|           | Q.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       | Concentration of credit risk                                                                  
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |                                                                                               
|           | Financial
  instruments that potentially subject the Company to concentration of credit
  risk consist mainly of cash and cash equivalents, restricted bank deposits
  and trade receivables.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |                                                                                               
|           | At December
  31, 2004 and 2003, the Company had cash and cash equivalents, and restricted
  bank deposits which were deposited with major Israeli banks. 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.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |                                                                                               
|           | Trade receivables
  include amounts billed to customers. Management periodically evaluates the
  collectibility of these trade receivables and adjusts the allowance for
  doubtful accounts to reflect the amounts estimated to be doubtful of
  collection.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |                                                                                               
|           | The Company
  operates on the basis of agreements it signs with its customers. The Company
  manages a limited number of projects at the same time, so that a delay in the
  execution of a project may have a material effect on the financial results.  Furthermore, the majority of the Companys
  transactions in progress are with major customers, see Note 1A.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |                                                                                               
|           | R.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       | Fair value of financial instruments                                                           
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |                                                                                               
|           | The fair
  market value of the Companys financial instruments, which are cash and cash
  equivalents, loan from related party, accounts receivable, and short and
  long-term debt approximate their carrying value as of December 31, 2004 and
  2003. The carrying amounts of the Companys borrowings under its short loan
  agreements approximate their fair value, since they bear interest that
  changes according to the LIBOR rate.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |                                                                                               
|           | S.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       | Derivative financial instruments                                                              
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |                                                                                               
|           | Derivative
  financial instruments, held for hedging, are deferred and recognized when the
  hedged transactions occur.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |                                                                                               
|           | Derivative
  financial instruments, not held for hedging, are stated in the financial
  statements at their fair value. Changes in fair value are recognized as they
  occur.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |                                                                                               
|           | The fair
  value of derivative financial instruments is determined based on their market
  value and, when there is no market value, then according to a valuation
  model.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |                                                                                               
|           | T.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       | Disclosure of effect of new accounting standards in the period prior
  to their implementation
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |                                                                                               
|           | In July
  2004, the Israeli Accounting Standards Board published Accounting Standard
  No. 19, Taxes on Income.  The
  Standard provides that a liability for deferred taxes is to be recorded for
  all temporary differences subject to tax, except for a limited number of
  exceptions.  In addition, a deferred
  tax asset is to be recorded for all temporary differences that may be
  deducted, losses for tax purposes and tax benefits not yet utilized, if it is
  anticipated that there will be taxable income against which they can be
  offset, except for a limited number of exceptions.  The new Standard applies to financial statements for periods
  beginning on January 1, 2005.  The
  Standard provides that it is to be implemented by means of a cumulative
  effect of a change in accounting method. 
  In the Companys estimation, the impact of the Standard on its results
  of operations, financial position and cash flows will not be material.

F-14

---

---



|                                                           
|-----------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                                 
|                                                           
|Notes to the Financial Statements as of
  December 31, 2004
|                                                           

|           |                            
|---------- | ---------------------------
|Note 3    | Cash and
  Cash Equivalents

| |                                      |  |                 |       |                 |  |       | 
| | ------------------------------------ |  | --------------- | ----- | --------------- |  | ----- | 
| |                                      |  | December
  31,  |      
| |                                      |  |                 |      
| |                                      |  | 2004            |       | 2003            | 
| |                                      |  |                 |       |                 | 
| |                                      |  | US$
  thousands |       | US$
  thousands | 
| |                                      |  |                 |       |                 | 
| |                                      |  |                 |       |                 | 
| | Linked to the U.S. dollar            |  |                 | 1,832 |                 |  | 1,235 | 
| | In New Israeli Shekels               |  |                 | 373   |                 |  | 378   | 
| | Linked to other foreign
  currencies |  |                 | 459   |                 |  | 14    | 
| |                                      |  |                 |       |                 |  |       | 
| |                                      |  |                 |       |                 |  |       | 
| |                                      |  |                 | 2,664 |                 |  | 1,627 | 
| |                                      |  |                 |       |                 |  |       | 

|           |                            |                                                                                                                                                                                                                                                                                                                                                                                                                 
|---------- | -------------------------- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Note 4    | Restricted
  Bank Deposits
|           |                            |                                                                                                                                                                                                                                                                                                                                                                                                                 
|           | A.                         | Cash was
  deposited in banks in respect of bank guarantees granted to the Companys
  customers as collateral for the continued performance of work and advances
  received from the customers. The withdrawal of these deposits is based on the
  progress in the work and is subject to customer approval.  The Company recorded liens on these
  deposits in favor of the banks that granted the guarantees.

| |    |                             |                                               |                |               |  |                 |       |  |   |   | 
| | -- | --------------------------- | --------------------------------------------- | -------------- | ------------- |  | --------------- | ----- |  | - | - | 
| |    |                             | Effective
  Interest rate as at
  December 31 |                |               |  |                 |      
| |    |                             |                                               | December
  31, |              
| |    |                             |                                               |                |              
| |    |                             | 2004                                          |                | 2004          |  | 2003            |      
| |    |                             |                                               |                |               |  |                 |      
| |    |                             | %                                             |                | US$ thousands |  | US$
  thousands |      
| |    |                             |                                               |                |               |  |                 |      
| |    |                             |                                               |                |               |  |                 |      
| | B. | Linked to the
  U.S. dollar |                                               |                | 1.45          |  |                 | 2,563 |  |   | - | 
| |    |                             |                                               |                |               |  |                 |       |  |   |  
| |    |                             |                                               |                |               |  |                 |       |  |   |  
| |    |                             |                                               |                |               |  | 2,563           |       |  | - |  
| |    |                             |                                               |                |               |  |                 |       |  |   |  

|           |                                                                                                                                                                                                                                                                                                                                                 
|---------- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Note 5    | Trade
  Receivables                                                                                                                                                                                                                                                                                                                             
|           |                                                                                                                                                                                                                                                                                                                                                 
|           | Open
  accounts include amounts billed to customers and various amounts due from
  transactions arising in the ordinary course of business. Management
  periodically evaluates the collectibility of these trade receivables and
  adjusts the allowance for doubtful accounts to reflect the amounts estimated
  to be doubtful of collection.

F-15

---

---



|                                                           
|-----------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                                 
|                                                           
|Notes to the Financial Statements as of
  December 31, 2004
|                                                           

|           |                                                                                                                                                                                                                                             
|---------- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Note 5    | Trade
  Receivables (contd)                                                                                                                                                                                                                
|           |                                                                                                                                                                                                                                             
|           | Customers of
  the Company in the context of long-term contracts are billed in accordance
  with milestones determined in the agreements. In respect of the majority of
  the contracts, advances are paid upon the signing of the contract.

| |                                                     |  |                 |       |                 |  |       | 
| | --------------------------------------------------- |  | --------------- | ----- | --------------- |  | ----- | 
| |                                                     |  | December
  31   |      
| |                                                     |  |                 |      
| |                                                     |  | 2004            |       | 2003            | 
| |                                                     |  |                 |       |                 | 
| |                                                     |  | US$
  thousands |       | US$
  thousands | 
| |                                                     |  |                 |       |                 | 
| |                                                     |  |                 |       |                 | 
| | Open accounts                                       |  |                 | 329   |                 |  | 569   | 
| | Income receivable (1)                               |  |                 | 1,084 |                 |  | 1,217 | 
| | Current maturities of
  long-term trade receivables |  |                 | -     |                 |  | 520   | 
| | Related parties                                     |  |                 | 305   |                 |  | -     | 
| | Former related party                                |  |                 | 2,166 |                 |  | 1,788 | 
| |                                                     |  |                 |       |                 |  |       | 
| |                                                     |  |                 |       |                 |  |       | 
| |                                                     |  |                 | 3,884 |                 |  | 4,094 | 
| |                                                     |  |                 |       |                 |  |       | 

| |     |                                                                                                                                                                                                                                                      
| | --- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | (1) | Income receivable
  represents the excess of the accumulated revenues included in the statement
  of operation over advances from customers in respect of the completed part of
  the project or amounts billed which are reflected as open accounts.

| |                                            |  |                 |       |                 |  |        | 
| | ------------------------------------------ |  | --------------- | ----- | --------------- |  | ------ | 
| |                                            |  | December
  31   |      
| |                                            |  |                 |      
| |                                            |  | 2004            |       | 2003            | 
| |                                            |  |                 |       |                 | 
| |                                            |  | US$
  thousands |       | US$
  thousands | 
| |                                            |  |                 |       |                 | 
| |                                            |  |                 |       |                 |  |        | 
| | Accumulated amounts recognized as revenues |  |                 | 8,076 |                 |  | 36,906 | 
| | Less - advances from
  customers           |  |                 | 7,064 |                 |  | 35,800 | 
| |                                            |  |                 |       |                 |  |        | 
| |                                            |  |                 |       |                 |  |        | 
| |                                            |  |                 | 1,012 |                 |  | 1,106  | 
| |                                            |  |                 |       |                 |  |        | 
| | Other income receivable                    |  |                 | 72    |                 |  | 111    | 
| |                                            |  |                 |       |                 |  |        | 
| |                                            |  |                 |       |                 |  |        | 
| |                                            |  |                 | 1,084 |                 |  | 1,217  | 
| |                                            |  |                 |       |                 |  |        | 

|           |                   
|---------- | ------------------
|Note 6    | Work in
  Progress

| |                                                 |  |                 |         |                 |  |          |  
| | ----------------------------------------------- |  | --------------- | ------- | --------------- |  | -------- | -
| |                                                 |  | December
  31   |        
| |                                                 |  |                 |        
| |                                                 |  | 2004            |         | 2003            | 
| |                                                 |  |                 |         |                 | 
| |                                                 |  | US$
  thousands |         | US$
  thousands | 
| |                                                 |  |                 |         |                 | 
| |                                                 |  |                 |         |                 | 
| | Costs with respect to
  work-in-progress        |  |                 | 87,429  |                 |  | 126,113  |  
| | Less - amounts charged to
  statement of income |  |                 | (87,383 | )               |  | (126,011 | )
| |                                                 |  |                 |         |                 |  |          |  
| |                                                 |  |                 | 46      |                 |  | 102      |  
| |                                                 |  |                 |         |                 |  |          |  

F-16

---

---



|                                                           
|-----------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                                 
|                                                           
|Notes to the Financial Statements as of
  December 31, 2004
|                                                           

|           |                                         
|---------- | ----------------------------------------
|Note 7    | Other
  Receivables and Prepaid Expenses

| |                                                         |  |                 |     |                 |  |       |  
| | ------------------------------------------------------- |  | --------------- | --- | --------------- |  | ----- | -
| |                                                         |  | December
  31,  |    
| |                                                         |  |                 |    
| |                                                         |  | 2004            |     | 2003            | 
| |                                                         |  |                 |     |                 | 
| |                                                         |  | US$
  thousands |     | US$
  thousands | 
| |                                                         |  |                 |     |                 | 
| |                                                         |  |                 |     |                 | 
| | Government authorities                                  |  |                 | 65  |                 |  | 42    |  
| | Employees                                               |  |                 | 9   |                 |  | -     |  
| | Prepaid expenses                                        |  |                 | 225 |                 |  | 281   |  
| | Others                                                  |  |                 | 156 |                 |  | 812   |  
| |                                                         |  |                 |     |                 |  |       |  
| |                                                         |  |                 |     |                 |  |       |  
| |                                                         |  |                 | 455 |                 |  | 1,135 |  
| | Allowance for doubtful accounts (other receivables) (1) |  |                 | (66 | )               |  | (372  | )
| |                                                         |  |                 |     |                 |  |       |  
| |                                                         |  |                 | 389 |                 |  | 763   |  
| |                                                         |  |                 |     |                 |  |       |  

| |     |                                                                                                                      
| | --- | ---------------------------------------------------------------------------------------------------------------------
| | (1) | The activity
  in the allowance for doubtful accounts for the years ended December 31, 2004
  and 2003 is as follows:

| |                                                      |  |                 |      |                 |  |     | 
| | ---------------------------------------------------- |  | --------------- | ---- | --------------- |  | --- | 
| |                                                      |  | December
  31,  |     
| |                                                      |  |                 |     
| |                                                      |  | 2004            |      | 2003            | 
| |                                                      |  |                 |      |                 | 
| |                                                      |  | US$
  thousands |      | US$
  thousands | 
| |                                                      |  |                 |      |                 | 
| |                                                      |  |                 |      |                 | 
| | Allowance for doubtful accounts at beginning of year |  |                 | 372  |                 |  | 251 | 
| | Additions charged to bad debt expense                |  |                 | 1    |                 |  | 121 | 
| | Write-down charged against the allowance             |  |                 | (300 | )               |  | -   | 
| | Recoveries of amounts previously written off         |  |                 | (7   | )               |  | -   | 
| |                                                      |  |                 |      |                 |  |     | 
| | Allowance for doubtful accounts at end of year       |  |                 | 66   |                 |  | 372 | 
| |                                                      |  |                 |      |                 |  |     | 

|           |            
|---------- | -----------
|Note 8    | Inventories

| |                                        |  |                 |       |                 |  |       | 
| | -------------------------------------- |  | --------------- | ----- | --------------- |  | ----- | 
| |                                        |  | December
  31,  |      
| |                                        |  |                 |      
| |                                        |  | 2004            |       | 2003            | 
| |                                        |  |                 |       |                 | 
| |                                        |  | US$
  thousands |       | US$
  thousands | 
| |                                        |  |                 |       |                 | 
| |                                        |  |                 |       |                 | 
| | Finished products                      |  |                 | 1,904 |                 |  | 1,904 | 
| | Components for systems
  manufacturing |  |                 | 219   |                 |  | 383   | 
| | Raw materials                          |  |                 | 52    |                 |  | 52    | 
| |                                        |  |                 |       |                 |  |       | 
| |                                        |  |                 | 2,175 |                 |  | 2,339 | 
| |                                        |  |                 |       |                 |  |       | 

F-17

---

---



|                                                           
|-----------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                                 
|                                                           
|Notes to the Financial Statements as of
  December 31, 2004
|                                                           

|           |                        
|---------- | -----------------------
|Note 9    | Investments
  and Loans

| |                                          |  |                 |       |                 |  |       |  
| | ---------------------------------------- |  | --------------- | ----- | --------------- |  | ----- | -
| |                                          |  | December
  31,  |      
| |                                          |  |                 |      
| |                                          |  | 2004            |       | 2003            | 
| |                                          |  |                 |       |                 | 
| |                                          |  | US$
  thousands |       | US$
  thousands | 
| |                                          |  |                 |       |                 | 
| |                                          |  |                 |       |                 | 
| | Long-term trade receivables              |  |                 | -     |                 |  | 520   |  
| | Less - current maturities                |  |                 | -     |                 |  | (520  | )
| |                                          |  |                 |       |                 |  |       |  
| |                                          |  |                 |       |                 |  |       |  
| | Equipment held for
  operating lease (1) |  |                 | -     |                 |  | -     |  
| | Cost                                     |  |                 | 1,293 |                 |  | 1,293 |  
| | Less - Accumulated
  amortization        |  |                 | (204  | )               |  | -     |  
| |                                          |  |                 |       |                 |  |       |  
| | Net book value                           |  |                 | 1,089 |                 |  | 1,293 |  
| | Long term deposit                        |  |                 | 25    |                 |  | 25    |  
| |                                          |  |                 |       |                 |  |       |  
| |                                          |  |                 | 1,114 |                 |  | 1,318 |  
| |                                          |  |                 |       |                 |  |       |  

|           |                |                                                                                                                                                                                                                                                                     
|---------- | -------------- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|           | (1)            | In November 2003, the
  Company signed an agreement with one of its customers pursuant to which the
  customer will rent from the Company Ehud systems for a period of two years,
  beginning in February 2004, for the amount of US$ 30 thousands for each month.
|           |                |                                                                                                                                                                                                                                                                     
|Note 10   | Fixed
  Assets

| |                                         |  |                                        |       |                           |  |                  |  |                                    |    |                          |  |                 |  |  |     |  |  |       | 
| | --------------------------------------- |  | -------------------------------------- | ----- | ------------------------- |  | ---------------- |  | ---------------------------------- | -- | ------------------------ |  | --------------- |  |  | --- |  |  | ----- | 
| |                                         |  | Computers
  and electronic
  equipment |       | Manufacturing
  equipment |  | Motor
  vehicles |  | Office
  furniture and
  equipment |    | Leasehold
  improvements |  | Total           | 
| |                                         |  |                                        |       |                           |  |                  |  |                                    |    |                          |  |                 | 
| |                                         |  | US$ thousands                          |       | US$
  thousands           |  | US$
  thousands  |  | US$
  thousands                    |    | US$
  thousands          |  | US$
  thousands | 
| |                                         |  |                                        |       |                           |  |                  |  |                                    |    |                          |  |                 | 
| |                                         |  |                                        |       |                           |  |                  |  |                                    |    |                          |  |                 | 
| | Cost                                    |  |                                        |       |                           |  |                  |  |                                    |    |                          |  |                 |  |  |     |  |  |       | 
| | Balance as at December 31 2003          |  |                                        | 6,416 |                           |  | 1,974            |  |                                    | 10 |                          |  | 886             |  |  | 252 |  |  | 9,538 | 
| | Additions                               |  |                                        | 152   |                           |  | 11               |  |                                    | -  |                          |  | 9               |  |  | 2   |  |  | 174   | 
| |                                         |  |                                        |       |                           |  |                  |  |                                    |    |                          |  |                 |  |  |     |  |  |       | 
| |                                         |  |                                        |       |                           |  |                  |  |                                    |    |                          |  |                 |  |  |     |  |  |       | 
| | Balance as at December 31 2004          |  |                                        | 6,568 |                           |  | 1,985            |  |                                    | 10 |                          |  | 895             |  |  | 254 |  |  | 9,712 | 
| |                                         |  |                                        |       |                           |  |                  |  |                                    |    |                          |  |                 |  |  |     |  |  |       | 
| |                                         |  |                                        |       |                           |  |                  |  |                                    |    |                          |  |                 |  |  |     |  |  |       | 
| | Accumulated depreciation                |  |                                        |       |                           |  |                  |  |                                    |    |                          |  |                 |  |  |     |  |  |       | 
| | Balance as at December 31 2003          |  |                                        | 5,854 |                           |  | 1,944            |  |                                    | 4  |                          |  | 457             |  |  | 119 |  |  | 8,378 | 
| | Additions                               |  |                                        | 386   |                           |  | 19               |  |                                    | 2  |                          |  | 53              |  |  | 26  |  |  | 486   | 
| |                                         |  |                                        |       |                           |  |                  |  |                                    |    |                          |  |                 |  |  |     |  |  |       | 
| |                                         |  |                                        |       |                           |  |                  |  |                                    |    |                          |  |                 |  |  |     |  |  |       | 
| | Balance as at December 31 2004          |  |                                        | 6,240 |                           |  | 1,963            |  |                                    | 6  |                          |  | 510             |  |  | 145 |  |  | 8,864 | 
| |                                         |  |                                        |       |                           |  |                  |  |                                    |    |                          |  |                 |  |  |     |  |  |       | 
| |                                         |  |                                        |       |                           |  |                  |  |                                    |    |                          |  |                 |  |  |     |  |  |       | 
| | Net book value as
  at December 31 2004 |  |                                        | 328   |                           |  | 22               |  |                                    | 4  |                          |  | 385             |  |  | 109 |  |  | 848   | 
| |                                         |  |                                        |       |                           |  |                  |  |                                    |    |                          |  |                 |  |  |     |  |  |       | 
| |                                         |  |                                        |       |                           |  |                  |  |                                    |    |                          |  |                 |  |  |     |  |  |       | 
| | Net book value as at December 31 2003   |  |                                        | 562   |                           |  | 30               |  |                                    | 6  |                          |  | 429             |  |  | 133 |  |  | 1,160 | 
| |                                         |  |                                        |       |                           |  |                  |  |                                    |    |                          |  |                 |  |  |     |  |  |       | 

F-18

---

---



|                                                           
|-----------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                                 
|                                                           
|Notes to the Financial Statements as of
  December 31, 2004
|                                                           

|           |                         
|---------- | ------------------------
|Note 11   | Short-Term
  Bank Credit

| |                                            |  |                     |           |                  |  |                 |  |                 |    
| | ------------------------------------------ |  | ------------------- | --------- | ---------------- |  | --------------- |  | --------------- | ---
| |                                            |  | December
  31, 2004 |           | December
  31,   | 
| |                                            |  |                     |           |                  | 
| |                                            |  | Weighted
  average  |           | 2004             |  | 2003            | 
| |                                            |  |                     |           |                  |  |                 | 
| |                                            |  | Linkage
  basis     |           | Interest
  rates |  | US$
  thousands |  | US$
  thousands |    
| |                                            |  |                     |           |                  |  |                 |  |                 |    
| |                                            |  |                     |           | %                |  |                 |  |                 |    
| |                                            |  |                     |           |                  |  |                 |  |                 |    
| |                                            |  |                     |           |                  |  |                 |  |                 |    
| | Short-term bank credit                     |  |                     | US dollar |                  |  | -               |  |                 | -  
| | Current maturities of long-term bank loans |  |                     | US dollar |                  |  | 3.85            |  |                 | 517
| |                                            |  |                     |           |                  |  |                 |  |                 |    
| |                                            |  |                     |           |                  |  |                 |  |                 | 517
| |                                            |  |                     |           |                  |  |                 |  |                 |    

|           |                                                                                                                                                                                                                                                                                                                                                                                                                           
|---------- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|           | As of
  December 31, 2004, the Company has no available revolving credit lines.  During the second quarter of 2004, the
  Company reached an agreement with its principal bank lenders for repayment of
  short-term bank credit of US$ 6.55 million and the rescheduling of repayment
  of short-term loans in the amount of US$ 1.5 million to the years 2005, 2006
  and 2007 (US$ 517 thousand are due for each year).
|           |                                                                                                                                                                                                                                                                                                                                                                                                                           
|           | In addition,
  the banks converted short-term credit, in the amount of $2 million, into
  Company shares.                                                                                                                                                                                                                                                                                                                 
|           |                                                                                                                                                                                                                                                                                                                                                                                                                           
|Note 12   | Trade
  Payables                                                                                                                                                                                                                                                                                                                                                                                                          

| |                      |  |                 |       |                 |  |       | 
| | -------------------- |  | --------------- | ----- | --------------- |  | ----- | 
| |                      |  | December
  31,  |      
| |                      |  |                 |      
| |                      |  | 2004            |       | 2003            | 
| |                      |  |                 |       |                 | 
| |                      |  | US$
  thousands |       | US$
  thousands | 
| |                      |  |                 |       |                 | 
| |                      |  |                 |       |                 | 
| | Former related party |  |                 | 1,246 |                 |  | 989   | 
| | Post-dated checks    |  |                 | 211   |                 |  | 99    | 
| | Open accounts        |  |                 | 600   |                 |  | 1,120 | 
| | Accrued expenses     |  |                 | 147   |                 |  | 1,060 | 
| |                      |  |                 |       |                 |  |       | 
| |                      |  |                 |       |                 |  |       | 
| |                      |  |                 | 2,204 |                 |  | 3,268 | 
| |                      |  |                 |       |                 |  |       | 

|           |                                                                       
|---------- | ----------------------------------------------------------------------
|Note 13   | Excess of
  Advances from Customers over Amounts Recognized as Revenue

| |                                                    |  |                 |         |                 |  |         |  
| | -------------------------------------------------- |  | --------------- | ------- | --------------- |  | ------- | -
| |                                                    |  | December
  31,  |        
| |                                                    |  |                 |        
| |                                                    |  | 2004            |         | 2003            | 
| |                                                    |  |                 |         |                 | 
| |                                                    |  | US$
  thousands |         | US$
  thousands | 
| |                                                    |  |                 |         |                 | 
| |                                                    |  |                 |         |                 | 
| | Advances from customers                            |  |                 | 87,349  |                 |  | 49,435  |  
| | Less - accumulated amounts
  recognized as revenue |  |                 | (84,070 | )               |  | (45,849 | )
| |                                                    |  |                 |         |                 |  |         |  
| |                                                    |  |                 |         |                 |  |         |  
| |                                                    |  |                 | 3,279   |                 |  | 3,586   |  
| |                                                    |  |                 |         |                 |  |         |  

F-19

---

---



|                                                         
|---------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                               
|                                                         
|Notes to the Financial Statements as of December 31, 2004
|                                                         

|           |                                      
|---------- | -------------------------------------
|Note 14   | Other
  Payables And Accrued Expenses

| |                                               |  |               |       |               |  |       | 
| | --------------------------------------------- |  | ------------- | ----- | ------------- |  | ----- | 
| |                                               |  | December 31,  |      
| |                                               |  |               |      
| |                                               |  | 2004          |       | 2003          | 
| |                                               |  |               |       |               | 
| |                                               |  | US$ thousands |       | US$ thousands | 
| |                                               |  |               |       |               | 
| |                                               |  |               |       |               |  |       | 
| | Payroll and
  related accruals                |  |               | 503   |               |  | 719   | 
| | Provision
  for warranty and completion       |  |               | 47    |               |  | 72    | 
| | Income taxes
  payable                        |  |               | 1,433 |               |  | 1,273 | 
| | Former
  related party                        |  |               | 195   |               |  | 364   | 
| | Other
  accrued expenses and accounts payable |  |               | 674   |               |  | 690   | 
| |                                               |  |               |       |               |  |       | 
| |                                               |  |               | 2,852 |               |  | 3,118 | 
| |                                               |  |               |       |               |  |       | 

|           |                                                                                         |                                                          
|---------- | --------------------------------------------------------------------------------------- | ---------------------------------------------------------
|Note 15   | Short-Term
  Loan from Related Parties                                                 
|           |                                                                                        
|           | Loan from
  Chun received in December 2003 linked to US Dollar and bearing no interest.
|           |                                                                                        
|           | In March 1,
  2004 the Company repaid the aforementioned loan.                         
|           |                                                                                        
|Note 16   | Long-Term
  Loans                                                                      
|           |                                                                                        
|           | A.                                                                                      | Balances according to linkage basis and rates of interest

| |                          |  |         |           |          |   |      |               |             |               |   |  |     | 
| | ------------------------ |  | ------- | --------- | -------- | - | ---- | ------------- | ----------- | ------------- | - |  | --- | 
| |                          |  |         |           |          |   |      |               | December 31 |              
| |                          |  | Linkage |           | Rates of |   |      |              
| |                          |  | Basis   |           | Interest |   | 2004 |               | 2003        |              
| |                          |  |         |           |          |   |      |               |             |              
| |                          |  |         |           |          | % |      | US$ thousands |             | US$ thousands |  
| |                          |  |         |           |          |   |      |               |             |               |  
|
| | Former
  related parties |  |         | US dollar |          |   | -    |               |             | 120           |   |  | 601 | 
| | Long-term
  bank loans   |  |         | US dollar |          |   | 3.85 |               |             | 1,550         |   |  | -   | 
| | Less -                   |  |         |           |          |   |      |               |             |               |   |  |     | 
| |                          |  |         |           |          |   |      |               |             |               |   |  | -   | 
| |                          |  |         |           |          |   |      |               |             |               |   |  |     | 
| |                          |  |         |           |          |   |      |               |             | 1,670         |   |  | 601 | 
| | Current
  maturities:    |  |         |           |          |   |      |               |             |               |   |  |     | 
| | Former related party     |  |         |           |          |   |      |               |             | (120          | ) |  | -   | 
| | Long-term bank loans     |  |         |           |          |   |      |               |             | (517          | ) |  | -   | 
| |                          |  |         |           |          |   |      |               |             |               |   |  |     | 
| |                          |  |         |           |          |   |      |               |             | 1,033         |   |  | 601 | 
| |                          |  |         |           |          |   |      |               |             |               |   |  |     | 

| |    |                                                                                                                                                                                                                                                     
| | -- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | B. | On October 1, 2003 the major shareholders of the Company (at that
  date) granted a loan in the amount of $ 601 thousand, for a period of two
  years, in order to finance the current operations of the Company. The loan
  does not bear interest.
| |    |                                                                                                                                                                                                                                                     
| |    | On March 2,
  2004, the loans from the former related parties in the amount of US$ 100
  thousands were converted into Ordinary Shares of the company, at a price of
  US$ 0.18 per share.                                                          
| |    |                                                                                                                                                                                                                                                     
| |    | On April 20,
  2004, the Company reached an agreement with one former related party for
  repayment of US$ 204 thousand and forgiveness of the residual debt of US$ 177
  thousand.                                                                 
| |    |                                                                                                                                                                                                                                                     

F-20

---

---



|                                                         
|---------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                               
|                                                         
|Notes to the Financial Statements as of December 31, 2004
|                                                         

|           |                                                  |                                                                                                                                                                                                                                                                                              
|---------- | ------------------------------------------------ | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Note 16   | Long-Term
  Loans (contd)                      
|           |                                                 
|           | C.                                               | During the
  second quarter of 2004, the Company reached an agreement with its principal
  bank to reschedule the repayment of short-term loans in the amount of
  US$ 1,550 thousand for the years 2005, 2006 and 2007.  The Company will pay US$ 517 thousand for
  each year.             
|           |                                                  |                                                                                                                                                                                                                                                                                              
|Note 17   | Liability
  for Employee Severance Benefits, Net
|           |                                                 
|           | A.                                               | Under
  Israeli law, the Company is required to make severance payments to dismissed
  employees and to employees terminating employment under certain other
  circumstances.  The Companys
  liability for severance pay is fully provided for through insurance policies
  and by accrual.
|           |                                                  |                                                                                                                                                                                                                                                                                              
|           |                                                  | Due to a
  reduction in salaries effective from October 1, 2002 and in accordance with
  an agreement between the Company and its employees, the liability for
  severance pay calculation is divided into two periods, until the salary
  reduction and subsequently.                       
|           |                                                  |                                                                                                                                                                                                                                                                                              
|           |                                                  | The
  calculation was based on the number of years of employment until September
  30, 2002 multiplied by the latest salary paid as of September, 2002, plus the
  number of years of employment commencing October 1, 2002 multiplied by the
  latest salary paid.                          

| |                          |  |               |        |               |  |       |  
| | ------------------------ |  | ------------- | ------ | ------------- |  | ----- | -
| |                          |  | December 31,  |       
| |                          |  |               |       
| |                          |  | 2004          |        | 2003          | 
| |                          |  |               |        |               | 
| |                          |  | US$ thousands |        | US$ thousands | 
| |                          |  |               |        |               | 
|
| | Severance
  pay          |  |               | 1,177  |               |  | 1,429 |  
| | Less -
  amounts funded* |  |               | (1,108 | )             |  | (969  | )
| |                          |  |               |        |               |  |       |  
| |                          |  |               |        |               |  |       |  
| |                          |  |               | 69     |               |  | 460   |  
| |                          |  |               |        |               |  |       |  

| |    |                                                                                                                                                                              
| | -- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |    | * The Company may only
  withdraw amounts funded for the purpose of severance pay disbursement.                                                                              
| |    |                                                                                                                                                                              
| | B. | Severance
  pay expenses (income) recorded for the years ended December 2004, 2003 and
  2002 were US$ (78) thousand, US$ 116 thousand and US$ (54) thousand,
  respectively.

F-21

---

---



|                                                           
|-----------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                                 
|                                                           
|Notes to the Financial Statements as of
  December 31, 2004
|                                                           

|           |                        |                                                                                                                                                                                                                                                                 
|---------- | ---------------------- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Note 18   | Shareholders
  Equity
|           |                       
|           | A.                     | On February 14, 2003, the Company was asked to transfer its Ordinary
  Shares quote from the NASDAQ SmallCap Market to the Over the Counter Bulletin
  Board (OTCBB) under the symbol BVRSF.OB.                                                                 
|           |                        |                                                                                                                                                                                                                                                                 
|           |                        | On October
  9, 2003, the Company filed a Form 15 with the U.S. Securities and Exchange
  Commission (the SEC) to deregister its Ordinary Shares and terminate its
  reporting obligations under the Securities Exchange Act of 1934.                         
|           |                        |                                                                                                                                                                                                                                                                 
|           |                        | On January 5, 2004, the Company withdrew the Form 15 previously filed
  with the SEC.  As a result, from
  February 15, 2004, the Companys Ordinary Shares are once again quoted on the
  Over-The Counters Bulletin Board (OTCBB) under the symbol BVRSF.OB.
|           |                        |                                                                                                                                                                                                                                                                 
|           | B.                     |                                                                                                                                                                                                                                                                 

| |                                       |  |                |             |                          |  |            |  |      |            |  |  |            | 
| | ------------------------------------- |  | -------------- | ----------- | ------------------------ |  | ---------- |  | ---- | ---------- |  |  | ---------- | 
| |                                       |  | Authorized     |             | Issued and
  outstanding | 
| |                                       |  |                |             |                          | 
| |                                       |  | December
  31, |             | December
  31,           | 
| |                                       |  |                |             |                          | 
| |                                       |  | 2004           |             | 2003                     |  | 2004       |  | 2003 |           
| |                                       |  |                |             |                          |  |            |  |      |           
| |                                       |  |                |             |                          |  |            |  |      |            |  |  |            | 
| | Ordinary Shares of NIS 1.00 par value |  |                | 200,000,000 |                          |  | 20,000,000 |  |      | 95,400,210 |  |  | 10,660,874 | 
| |                                       |  |                |             |                          |  |            |  |      |            |  |  |            | 

| |    |                                                                                                                                                                                                                                                                                                                                                                     
| | -- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | C. | In June 2000, the Board of Directors of the Company approved a plan
  to grant options for the purchase of up to 1,200,000 Ordinary Shares to the
  Companys employees. Each option is exercisable into one Ordinary Share of
  the Company at an exercise price equal to the market price of the share on
  the date of issuance.                                 
| |    |                                                                                                                                                                                                                                                                                                                                                                     
| |    | At December
  31, 2004, there are 805 thousand options outstanding, after cancellation of
  those options held by employees who are no longer employed by the Company.                                                                                                                                                                                              
| |    | The options
  are exercisable at prices of US$ 1.188 to US$ 4.25 per share.                                                                                                                                                                                                                                                                                         
| |    |                                                                                                                                                                                                                                                                                                                                                                     
| |    | The
  aforesaid options are exercisable in three equal increments (one third per
  year) commencing one year after their issuance.                                                                                                                                                                                                                                  
| |    |                                                                                                                                                                                                                                                                                                                                                                     
| |    | In August
  2001, the Board of Directors resolved to cancel the remaining balance of
  options that were available for issuance from this option plan.                                                                                                                                                                                                              
| |    |                                                                                                                                                                                                                                                                                                                                                                     
| | D. | In February
  2000, the Companys Board of Directors approved the grant of up to 300
  thousand options to employees of the Company. The options were issued in
  March 2000 and will be exercisable, after a vesting period, until March 2005
  at the price of US$ 7.125 in cash per option. 
  Each option is exercisable into one Ordinary Share of the Company.
| |    |                                                                                                                                                                                                                                                                                                                                                                     
| |    | At December
  31, 2004, there are 163 thousand options outstanding, after cancellation of
  those options held by employees who are no longer employed by the Company.                                                                                                                                                                                              

F-22

---

---



|                                                           
|-----------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                                 
|                                                           
|Notes to the Financial Statements as of
  December 31, 2004
|                                                           

|           |                                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|---------- | ------------------------------- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Note 18   | Shareholders
  Equity (contd)
|           |                                
|           | E.                              | In August
  2001, the Board of Directors of the Company approved an option plan to grant
  options for the purchase of up to 707,900 Ordinary Shares to the Companys
  employees, directors and subcontractors. Each option is exercisable into one
  Ordinary Share of the Company at an exercise price equal to the market price
  of the share on the date of issuance.                                                                                                                  
|           |                                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|           |                                 | The
  aforesaid options are exercisable in two increments, one third after one year
  from the date of issuance and two thirds after two years from the date of
  issuance. The options will expire after three years from the vesting date of
  each increment.                                                                                                                                                                                                                             
|           |                                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|           |                                 | At December
  31, 2004, there are 565 thousand options outstanding after cancellation of
  those options held by employees who are no longer employed by the Company.                                                                                                                                                                                                                                                                                                                        
|           |                                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|           | F.                              | In January
  2004, the Companys Board of Directors approved the grant of up to 5,000
  thousand options to the Companys employees and service providers.  Each option is exercisable into one
  Ordinary Share of the Company. At December 31, 2004, there are 3,875 thousand
  options outstanding for employees after cancellation of those options held by
  employees who are no longer employed by the Company and there are 970
  thousand options outstanding for service providers.
|          
|           |                                 | The options
  are exercisable at prices of US$ 0.18 to US$ 0.65 per share.                                                                                                                                                                                                                                                                                                                                                                                                                   
|          
|           |                                 | The
  aforesaid options are exercisable in five equal increments (one fifth per
  year) commencing one year after their issuance. The options will expire after
  three years from the vesting date of each increment.                                                                                                                                                                                                                                                                       
|           |                                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|           | G.                              | In January
  2004, the Company signed a three-year agreement with Consult Wise Pte Ltd.
  (the Consultant) according to which the Consultant will provide the Company
  marketing services in the Far East. The Company will pay to the Consultant an
  amount of US$ 3,000 each month by way of issuance of 16,667 Ordinary Shares of
  nominal value NIS 1 per share.                                                                                                                    
|          
|           |                                 | Maayan Tzidon, a brother of Aviv Tzidon, Chairman of the Board of
  Directors, provides the Consultants services.                                                                                                                                                                                                                                                                                                                                                                           
|          
|           |                                 | During the
  year ended December 31, 2004, the Company issued 200,000 Ordinary Shares in
  respect of this agreement.  In the
  years 2005 and 2006 additional 400,000 ordinary shares will be issued with
  respect of this agreement.                                                                                                                                                                                                                                                      
|           |                                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|           | H.                              | Any dividend
  distributed by the Company will be declared in NIS and paid in U.S. dollars
  on the basis of the exchange rate prevailing at the date of payment.                                                                                                                                                                                                                                                                                                                            

F-23

---

---



|                                                           
|-----------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                                 
|                                                           
|Notes to the Financial Statements as of
  December 31, 2004
|                                                           

|           |                                 |                                                                                                                                                                                                                   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|---------- | ------------------------------- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Note 18   | Shareholders
  Equity (contd)
|           |                                
|           | I.                              | (1)                                                                                                                                                                                                               | In
  accordance with the decisions of the Companys shareholders meeting, which
  held on March 1, 2004, and during 2004, the Company completed the issuance of
  shares, in the amount of US$ 11.9 million, of which US$ 9.8 million was issued
  in exchange for cash and $2.1 million was issued in exchange for conversion
  of loans from banks and a controlling interest into shares.                                                                             
|           |                                 |                                                                                                                                                                                                                   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                 |                                                                                                                                                                                                                   | In addition,
  Chun was granted an option to purchase 40,000,000 Ordinary Shares of the
  Company, nominal value NIS 1.00 each, for an additional investment amount of
  up to US$ 7.2 million at an exercise price per Ordinary Share, nominal value
  NIS 1.00 each, of US$ 0.18, for a period of four years. The options will
  expire in March 2008.                                                                                                                 
|           |                                 |                                                                                                                                                                                                                   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                 |                                                                                                                                                                                                                   | Chun has
  resolved, and instructed the Company accordingly, that even though the
  shareholders of the Company have voted for the grant of all the Options to
  itself, Chun shall only be entitled to 30,000,000 of the Options and the
  remaining 10,000,000 Options shall be distributed among the Investors,
  pro-rata to the cash invested by them following the date herein.                                                                                    
|           |                                 |                                                                                                                                                                                                                   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                 |                                                                                                                                                                                                                   | During the
  third quarter of 2004, Chun exercised 17,666,667 options into Ordinary Shares
  for the amount of US$ 3,180 thousand.                                                                                                                                                                                                                                                                                                                                       
|           |                                 |                                                                                                                                                                                                                   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                 |                                                                                                                                                                                                                   | At December
  31, 2004, there are 22,333,333 options outstanding.                                                                                                                                                                                                                                                                                                                                                                                                        
|           |                                 |                                                                                                                                                                                                                   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                 |                                                                                                                                                                                                                   | In addition,
  the Company granted Aviv Tzidon, Chairman of the Board of Directors, an
  option to purchase 9,000,000 Ordinary Shares of the Company, nominal value
  NIS 1.00 each, such that for each year of service as active Chairman of
  the Board of Directors of the Company he shall be entitled to 1,800,000
  options. The exercise price per share shall be US$ 0.18. The options will expire after three years
  from the vesting date of each installment.
|           |                                 |                                                                                                                                                                                                                   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                 |                                                                                                                                                                                                                   | As at
  December 31, 2004 there are 9,000,000 options outstanding, 1,800,000 of them
  are exercisable immediately.                                                                                                                                                                                                                                                                                                                                                      
|           |                                 |                                                                                                                                                                                                                   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                 |                                                                                                                                                                                                                   | The Company
  also granted to Company directors (not including Aviv Tzidon) and external
  directors, options to purchase 648,000 Ordinary Shares of the Company (72,000
  options for each director), nominal value NIS 1.00 each, at an exercise per
  share of US$ 0.18. The options are subject to the completion of a full year of
  service.                                                                                                                       
|           |                                 |                                                                                                                                                                                                                   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                 | (2)                                                                                                                                                                                                               | On March 2,
  2004, the loans from related parties in the amount of US$ 100 thousand were
  converted into Ordinary Shares of the company, at a price of US$ 0.18 per
  share.                                                                                                                                                                                                                                                                                           
|           |                                 |                                                                                                                                                                                                                   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                 |                                                                                                                                                                                                                   | See also
  Note 16.                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|           |                                 |                                                                                                                                                                                                                   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           | J.                              | On March 1,
  2004, the Meeting of the Companys shareholders approved to increase the
  share capital of the Company by NIS 180,000,000 divided into 180,000,000
  Ordinary Shares, nominal value NIS 1.00 each.
|           |                                 |                                                                                                                                                                                                                   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                 | The
  authorized share capital of the Company following the share capital increase
  is of NIS 200,000,000 divided into 200,000,000 Ordinary Shares, nominal
  value NIS 1.00 each.                              

F-24

---

---



|                                                         
|---------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                               
|                                                         
|Notes to the Financial Statements as of December 31, 2004
|                                                         

|           |                                          |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |                                                                                                                                                                                                                                                                                                                               
|---------- | ---------------------------------------- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Note 19   | Commitments
  and Contingent Liabilities
|           |                                          |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |                                                                                                                                                                                                                                                                                                                               
|           | A.                                       | Cooperation agreement                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|           |                                          |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |                                                                                                                                                                                                                                                                                                                               
|           | 1.                                       | The Company
  developed, manufactured and marketed the Ehud system pursuant to a joint
  venture agreement entered into in 1992 with the MLM division of Israel
  Aircraft Industries Ltd. (IAI) (the IAI Agreement). Pursuant to the IAI
  Agreement, the Company and IAI agreed to jointly develop, manufacture and
  market the Ehud, with IAI subcontracting certain of the manufacturing and
  integration work with respect to the Ehud product to the Company.             
|           |                                          | The IAI
  Agreement expired pursuant to its terms in October 1997.                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                          |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |                                                                                                                                                                                                                                                                                                                               
|           |                                          | During
  August 1999, the Company signed a new agreement with MLM (MLM Agreement)
  which governs a joint venture between the parties and which also provides
  guidelines for fair competition between the parties, this without adversely
  impacting existing agreements previously signed with third parties.                                                                                                                                                                           
|           |                                          |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |                                                                                                                                                                                                                                                                                                                               
|           |                                          | The parties
  have agreed that the Ehud system will be marketed by each of the parties,
  in various territories, in consideration of the payment of various royalties
  to the other party.                                                                                                                                                                                                                                                                                              
|           |                                          | As part of
  the MLM Agreement, the following worldwide territories have been delineated:                                                                                                                                                                                                                                                                                                                                                                                                   
|           |                                          |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |                                                                                                                                                                                                                                                                                                                               
|           |                                          | a.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           | A territory
  in which one party operates exclusively while paying the other party
  royalties at the rate of 4.75% - 12.5% of the contract consideration with
  respect to contracts executed in such countries until 2008. The party
  receiving the royalty shall not operate in this territory in any manner
  whatsoever.
|           |                                          |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |                                                                                                                                                                                                                                                                                                                               
|           |                                          | b.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           | A territory
  in which the parties may compete, with the successful party paying the other
  party royalties at the rate of 4%-8% of the contract consideration, with
  respect to contracts executed in such countries until 2008.                                                                                           
|           |                                          |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |                                                                                                                                                                                                                                                                                                                               
|           |                                          | c.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           | Countries
  not included in a. and b., above, shall be covered by a separate arrangement.                                                                                                                                                                                                                                     
|           |                                          |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |                                                                                                                                                                                                                                                                                                                               
|           |                                          | Pursuant to
  the MLM Agreement, MLM has the exclusive right to market and sell the Ehud
  systems in the countries included in the BGT Agreement (countries in West
  Europe).                                                                                                                                                                                                                                                                                                           
|           |                                          |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |                                                                                                                                                                                                                                                                                                                               
|           |                                          | The
  agreement, whose terms are set forth above, shall apply to the sale of the
  Ehud systems.  With regard to other product, separate royalty payment
  instructions were set up.                                                                                                                                                                                                                                                                                                      
|           |                                          |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |                                                                                                                                                                                                                                                                                                                               
|           |                                          | There are
  still outstanding disagreements between the parties relating to projects
  performed prior to entering into the MLM agreement. The MLM agreement
  provides for a resolution mechanism of such disputes, including by arbitration
  in case the parties cannot reach a mutually agreed resolution.  Management believes that the resolving of
  outstanding disagreements will not have additional implications on the
  financial results or the Companys financial situation.

F-25

---

---



|                                                         
|---------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                               
|                                                         
|Notes to the Financial Statements as of December 31, 2004
|                                                         

|           |                                                                                                                                                                                                               |                  
|---------- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | -----------------
|Note 19   | Commitments
  and Contingent Liabilities (contd)                                                                                                                                                            
|           |                                                                                                                                                                                                               |                  
|           | B.                                                                                                                                                                                                            | Lease commitments
|           |                                                                                                                                                                                                               |                  
|           | The premises
  occupied by the Company are rented under various operating leases expiring at
  the end of September 2009. The future minimum annual rental payments as of
  December 31, 2004 are as follows:

| |                          |  |                |       | 
| | ------------------------ |  | -------------- | ----- | 
| | Year ending December 31, |  | US$
  thousand |      
| |                          |  |                |      
| |                          |  |                |       | 
| | 2005                     |  |                | 420   | 
| | 2006                     |  |                | 478   | 
| | 2007                     |  |                | 456   | 
| | 2008                     |  |                | 350   | 
| | 2009 and
  after         |  |                | 248   | 
| |                          |  |                |       | 
| |                          |  |                |       | 
| |                          |  |                | 1,952 | 
| |                          |  |                |       | 

| |                                                                                                                                                                                                                                                                           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | C.                                                                                                                                                                                                                                                                        | Spin-off                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
| |                                                                                                                                                                                                                                                                           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| | In
  connection with the spin-off plan (plan) (see Note 1A) the Company
  completed several agreements with B.V.R. Technologies for the purpose of
  giving effect to the plan and defining the Companys and B.V.R.
  Technologiess working relationship, as follows:
| |                                                                                                                                                                                                                                                                          
| | 1.                                                                                                                                                                                                                                                                        | The Company
  and B.V.R. Technologies each undertook to indemnify and/or compensate the
  other (the Injured Party) for any amount, damage or expense that the
  Injured Party incurs in consequence of a third-party claim relating to a
  field of activity of the indemnifying party, concerning events occurring
  before the effective date of the spin-off, provided that the Injured Party
  notified the indemnifying party of the third-party claim and allowed the
  indemnifying party to manage and defend such claim.                                                                                                                                                                                                                             
| |                                                                                                                                                                                                                                                                           | As at
  December 31, 2004 and for the three years then ended, no expenses and/or
  liabilities were recorded by the Company. The Company has no information that
  would indicate that any material payments will be required in respect of this
  agreement.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
| |                                                                                                                                                                                                                                                                           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| | 2.                                                                                                                                                                                                                                                                        | The Company
  and B.V.R. Technologies entered into an agreement concerning technology
  transfers and cross licenses between each of the parties (the Agreement).
  Under this agreement, B.V.R. Technologies transferred to the Company the
  rights to co-ownership of B.V.R. Technologiess intellectual property as
  related to the defense-related operations transferred to the Company pursuant
  to the spin-off agreement.  In
  January 2003 the Company And B.V.R. technologies entered into a Technology
  Transfer and Assignment Agreement pursuant to which the Company purchased
  from B.V.R. technologies all rights, title and interest to all patents that
  were in the co-ownership of the parties, in consideration for US$12 thousand.
| |                                                                                                                                                                                                                                                                           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| | 3.                                                                                                                                                                                                                                                                        | B.V.R.
  Technologies will only be entitled to exploit such intellectual property
  rights for its activities that do not conflict with the Companys activities
  as conducted at the time of consummation of the Plan other than with respect
  to applications relating to simulation and training systems for commercial
  applications which shall be exploited solely by the Company. The Company and
  B.V.R. Technologies further agreed not to compete with each others business
  activities.                                                                                                                                                                                                                                                         

F-26

---

---



|                                                         
|---------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                               
|                                                         
|Notes to the Financial Statements as of December 31, 2004
|                                                         

|           |                                                   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|---------- | ------------------------------------------------- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Note 19   | Commitments
  And Contingent Liabilities (contd)
|           |                                                   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|           | D.                                                | Charges and guarantees                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|           |                                                   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|           | 1.                                                | In order to
  provide security for the credit received from banks and for the bank
  guarantees provided in favor of the Company, the Company registered first
  degree fixed and floating liens on money deposits, a floating lien on all its
  property, assets and related insurance benefits and a floating lien on its unpaid
  share capital, its goodwill and its plant, assets and rights.                                                                                                               
|           |                                                   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|           | 2.                                                | On certain
  occasions the Company deposits cash and cash equivalents with certain
  financial institutions that have issued guarantees on behalf of the Company
  in favor of its customers. In order to fulfill the above-mentioned
  commitment, the Company places a charge on its bank deposits (including the
  insurance rights attached thereto). At the balance sheet date there are
  US$ 2,563 thousand restricted bank deposits (as at December 31, 2003 - there
  were no restricted bank deposits).
|           |                                                   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|           | 3.                                                | The secured
  liabilities and guarantees (secured by a debenture) are as follows:                                                                                                                                                                                                                                                                                                                                                                                                                                

| |                                  |  |                 |       |                 |  |        | 
| | -------------------------------- |  | --------------- | ----- | --------------- |  | ------ | 
| |                                  |  | December
  31   |      
| |                                  |  |                 |      
| |                                  |  | 2004            |       | 2003            | 
| |                                  |  |                 |       |                 | 
| |                                  |  | US$
  thousands |       | US$
  thousands | 
| |                                  |  |                 |       |                 | 
|
| | Short-term
  credit from banks   |  |                 | 517   |                 |  | 10,116 | 
| |                                  |  |                 |       |                 |  |        | 
| |                                  |  |                 |       |                 |  |        | 
| | Long-term
  bank loans           |  |                 | 1,033 |                 |  | -      | 
| |                                  |  |                 |       |                 |  |        | 
| |                                  |  |                 |       |                 |  |        | 
| | Performance
  guarantees (1)     |  |                 | 9,705 |                 |  | 7,571  | 
| |                                  |  |                 |       |                 |  |        | 
| |                                  |  |                 |       |                 |  |        | 
| | Advance
  payment guarantees (1) |  |                 | 6,358 |                 |  | 7,762  | 
| |                                  |  |                 |       |                 |  |        | 
| |                                  |  |                 |       |                 |  |        | 
| | Other bank
  guarantees (1)      |  |                 | 556   |                 |  | 570    | 
| |                                  |  |                 |       |                 |  |        | 

| |  |                                                                          |                                                                
| |  | ------------------------------------------------------------------------ | ---------------------------------------------------------------
| |  | (1)                                                                      | The
  guarantees are provided by banks in favor of the Company.
| |  |                                                                          |                                                                
| |  | The
  expiration dates of the guarantees are up to August 11, 2008.     
| |  |                                                                          |                                                                
| |  | Bank charges
  on those guarantees are attributed to financial expenses.

| |                                                                                                                                                          |                                      
| | -------------------------------------------------------------------------------------------------------------------------------------------------------- | -------------------------------------
| | E.                                                                                                                                                       | Liability for warranty and completion
| |                                                                                                                                                          |                                      
| | The Company
  has made provision for warranty for some of its completed projects, in
  accordance with management judgment and based on past experience.
| | The changes
  in this provision during 2004 are as follows:                                                                                             

| |                                |  |                 |     
| | ------------------------------ |  | --------------- | ----
| |                                |  | US$
  thousands |     
| |                                |  |                 |     
| | Balance at
  December 31, 2002 |  |                 | 455 
| | Accrued                        |  |                 | 30  
| | Utilized                       |  |                 | (413
| |                                |  |                 |     
|
| | Balance at
  December 31, 2003 |  |                 | 72  
| | Accrued                        |  |                 | -   
| | Utilized                       |  |                 | (25 
| |                                |  |                 |     
|
| | Balance at
  December 31, 2004 |  |                 | 47  
| |                                |  |                 |     

F-27

---

---



|                                                         
|---------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                               
|                                                         
|Notes to the Financial Statements as of December 31, 2004
|                                                         

|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |                                                
|---------- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | -----------------------------------------------
|Note 19   | Commitments
  and Contingent Liabilities (contd)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |                                                
|           | F.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | Derivative financial instruments               
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |                                                
|           | The Company
  enters, from time to time, into foreign currency future contracts and put and
  call options contracts to reduce the impact of fluctuations of certain
  currencies against the U.S. dollar resulting primarily from firm commitments
  not denominated in U.S. dollars. Gains or losses resulting from qualified
  hedges of firm commitments are deferred and recognized when the hedged
  transactions occur, while results of transactions which do not meet all the
  criteria specified in SFAS No. 52 and SFAS No. 80 are recorded as financial
  income or expense.
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |                                                
|           | As at
  December 31, 2004, the Company has an obligation to sell US$ 250 thousand for
  a total amount of NIS 1,094 thousand.                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |                                                
|           | The fair
  value of this derivative financial instrument amounted to a net asset of US$ 3  thousand as of December 31, 2004 and was recorded as an asset in the balance
  sheet (as part of others in Note 7).                                                                                                                                                                                                                                                                                                                                                                           
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |                                                
|           | As at
  December 31, 2004, the Company has an obligation to sell EURO 750 thousand
  for a total amount of US$ 971 thousand.                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |                                                
|           | The fair value
  of this derivative financial instrument amounted to a net liability of US$ 20
  thousand as of December 31, 2004 and was recorded as a liability in the
  balance sheet (Note 14, as part of Other Accrued Expenses and Accounts
  Payable).                                                                                                                                                                                                                                                                                                                            
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |                                                
|           | As at
  December 31, 2004, the Company has a put option (part of a certain put option
  strategy signed in February 2003) for selling US$ 800 thousand for NIS 3,600
  thousand. The option expires during various periods until April 2005. The
  fair value of the derivative financial instrument amounted to a net asset of
  US$ 33 thousand and was recorded as an asset in the balance sheet (as part of
  others in Note 7).                                                                                                                                                     
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |                                                
|           | G.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        | Information on contracts for long-term projects

| |                                                                                                                      |  |                                              |        |                                              |  |                                              | 
| | -------------------------------------------------------------------------------------------------------------------- |  | -------------------------------------------- | ------ | -------------------------------------------- |  | -------------------------------------------- | 
| |                                                                                                                      |  | December 31
  2004 and the
  year then ended |        | December 31
  2003 and the
  year then ended |  | December 31
  2002 and the
  year then ended | 
| |                                                                                                                      |  |                                              |        |                                              |  |                                              | 
| |                                                                                                                      |  | Contracts for
  projects                     |        | Contracts for 
  projects                    |  | Contracts for 
  projects                    | 
| |                                                                                                                      |  |                                              |        |                                              |  |                                              | 
| |                                                                                                                      |  | US$ thousands                                |        | US$ thousands                                |  | US$ thousands                                | 
| |                                                                                                                      |  |                                              |        |                                              |  |                                              | 
| |                                                                                                                      |  |                                              |        |                                              |  |                                              | 
| | Amount of contracts for long-term
projects
  signed during the year                                                  |  |                                              | 10,115 |                                              |  | 7,723                                        | 
| |                                                                                                                      |  |                                              |        |                                              |  |                                              | 
| |                                                                                                                      |  |                                              |        |                                              |  |                                              | 
| | Portion of the accumulated amount of
  contracts for long-term projects not yet recognized as income at the year end |  |                                              | 14,733 |                                              |  | 14,066                                       | 
| |                                                                                                                      |  |                                              |        |                                              |  |                                              | 

F-28

---

---



|                                                         
|---------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                               
|                                                         
|Notes to the Financial Statements as of December 31, 2004
|                                                         

|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |                                                                                            
|---------- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | -------------------------------------------------------------------------------------------
|Note 19   | Commitments
  and Contingent Liabilities (contd)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |                                                                                            
|           | H.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      | Stamp duty                                                                                 
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |                                                                                            
|           | Stamp duty
  applies in Israel to various types of documents at various rates, depending
  primarily on the type of the document and the amount specified, or not,
  therein.  In June 2003, the statute imposing stamp duty was amended.
   Following this amendment, the Israeli Tax Authority has increased
  enforcement of this statute.  The amendment to the statute and the
  enforcement actions taken by the Israeli Tax Authority are in legal dispute
  before the Israeli Supreme Court, which has not yet ruled on this matter.
   In addition, under current legislation the stamp duty statute is
  expected to be gradually abolished until its complete cancellation in
  2008.   To date, the Company has not received a demand for payment
  of stamp duty following this amendment.  The Company does not believe
  that any stamp duty that may be imposed on it as a result of this amendment
  will be material to the Companys financial position or results of
  operations.
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |                                                                                            
|Note 20   | Income
  Taxes                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |                                                                                            
|           | A.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      | Tax benefits under the Law for the Encouragement of Industry (Taxes),
  1969               
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |                                                                                            
|           | The Company is an industrial company, as defined by this law and,
  as such, is entitled to certain tax benefits, mainly accelerated depreciation
  of machinery and equipment, as prescribed by regulations published under the
  Inflationary Adjustments Law (see Note 20C hereunder), the right to claim
  public issuance expenses and amortization of patents and other intangible
  property rights as a deduction for tax purposes.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |                                                                                            
|           | B.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      | Tax benefits under the law for the
  Encouragement of Capital Investments, 1959 (the law)
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |                                                                                            
|           | In 1998, the
  Company applied for approval of the expansion of its facilities in Rosh
  Haayin (the second plan).                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |                                                                                            
|           | In addition,
  in 2001 the Company filed a request for an additional new plan to expand its
  production facilities in Rosh Haayin (the third plan). The request was
  approved in 2002.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |                                                                                            
|           | Pursuant to
  the aforementioned law the Company will be entitled to a full exemption on
  its taxable income arising from the second and third plan for a period of two
  years and a reduced tax rate of 25% for an additional five years from the
  date on which the investments are significantly completed and the Company has
  taxable income as defined by the law.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |                                                                                            
|           | The benefits
  to which the Company will be entitled, will be granted on the proportionate
  part of the income, deriving from a future increase in its income in excess
  of the base turnover, which is not entitled to benefits. The utilization of
  the seven years of benefits for the second and third plan is limited to 2012
  and 2016, respectively.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |                                                                                            
|           | As of
  December 31, 2004, due to losses, the Company had not yet utilized the tax
  benefits provided in the second and third plan.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   

F-29

---

---



|                                                         
|---------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                               
|                                                         
|Notes to the Financial Statements as of December 31, 2004
|                                                         

|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |                                                                                                     
|---------- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ----------------------------------------------------------------------------------------------------
|Note 20   | Income Taxes (contd)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|          
|           | B.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   | Tax benefits under the law for the
  Encouragement of Capital Investments, 1959 (the law) (contd)
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |                                                                                                     
|           | The tax-exempt
  income attributable to the Approved Enterprise can be distributed to
  shareholders without subjecting the Company to taxes only upon the complete
  liquidation of the Company.  The
  Companys Board of Directors has determined that such tax-exempt income will
  not be distributed as dividends. Accordingly, no deferred income taxes have
  been provided on income attributable to the Companys Approved Enterprise.                                                                
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|           | If the
  retained tax-exempt income is distributed in a manner other than the complete
  liquidation of the Company, it would be taxed at the corporate tax rate
  applicable to such profits as if the Company had not chosen the alternative
  tax benefits (currently - 25%).  As at
  December 31, 2004 the Company has accumulated losses.                                                                                                                                                                     
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|           | The
  aforementioned benefits are conditional upon compliance with the terms and
  regulations as prescribed by law, and the approvals according to which the
  investments were carried out. 
  Non-compliance with the terms may result in the cancellation of the
  benefits, in whole, or in part, and the refund of the benefit amounts in
  addition to accrued interest.                                                                                                                                     
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|           | As of the
  date of the financial statements, the Companys management is of the opinion
  that it is in compliance with all of the aforementioned terms.                                                                                                                                                                                                                                                                                                                                                           
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|           | C.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   | Measurement of taxable income under the Income Tax (Inflationary
  Adjustments) Law, 1985           
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |                                                                                                     
|           | Under this
  law, taxable income is measured in real terms, in accordance with the changes
  in the Israeli CPI.                                                                                                                                                                                                                                                                                                                                                                                                    
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|           | D.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   | Tax rates applicable to income from other sources in Israel                                         
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |                                                                                                     
|           | Income
  derived from sources other than the approved enterprise is not eligible for
  the aforementioned benefits and is taxed at the regular rate of 35%.                                                                                                                                                                                                                                                                                                                                                         
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|           | On June 29,
  2004, the Israeli Knesset passed Income Tax Ordinance (No. 140 and Temporary Order),
  2004 (hereinafter  the Amendment). 
  The Amendment provides for gradual reduction of the tax rates for
  companies, from the rate of 36% to the rate of 30%, in the following manner:  in the 2004 tax year the tax rate will be
  35%, in the 2005 tax year the tax rate will be 34%, in the 2006 tax year the
  tax rate will be 32%, and in the 2007 tax year and thereafter the tax rate
  will be 30%.
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|           | E.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   | Taxation of foreign subsidiary                                                                      
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |                                                                                                     
|           | The
  subsidiary in the Far East is taxed under the tax laws in force in
  those countries.                                                                                                                                                                                                                                                                                                                                                                                                                         

F-30

---

---



|                                                         
|---------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                               
|                                                         
|Notes to the Financial Statements as of December 31, 2004
|                                                         

|           |                                                                                                                                                                                                                                                                              |                      
|---------- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ---------------------
|Note 20   | Income Taxes (contd)                                                                                                                                                                                                                                                       
|          
|           | F.                                                                                                                                                                                                                                                                           | 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.                                                      
|           |                                                                                                                                                                                                                                                                             
|           | Deferred tax
  assets for future tax benefits from realization are included where their
  realization is reasonable. As such, the Company has recorded a valuation
  allowance in regard of all its tax losses carried forward as well as for
  other temporary differences.
|           |                                                                                                                                                                                                                                                                             
|           | Significant
  components of the Companys deferred tax liabilities and assets are as
  follows:                                                                                                                                                                             

| |                                       |  |               |         |               |  |         |  
| | ------------------------------------- |  | ------------- | ------- | ------------- |  | ------- | -
| |                                       |  | December 31,  |        
| |                                       |  |               |        
| |                                       |  | 2004          |         | 2003          | 
| |                                       |  |               |         |               | 
| |                                       |  | US$ thousands |         | US$ thousands | 
| |                                       |  |               |         |               | 
| |                                       |  |               |         |               |  |         |  
| | Deferred tax
  assets:                |  |               |         |               |  |         |  
| | Provision for vacation                |  |               | 55      |               |  | 67      |  
| | Liability for employees severance pay |  |               | 21      |               |  | 166     |  
| | Net operating loss carryforwards      |  |               | 12,677  |               |  | 14,897  |  
| | Research and development costs, net   |  |               | 133     |               |  | 373     |  
| | Issuance expenses                     |  |               | 51      |               |  | -       |  
| | Others                                |  |               | 9       |               |  | 42      |  
| |                                       |  |               |         |               |  |         |  
| |                                       |  |               | 12,946  |               |  | 15,545  |  
| | Less:
  Valuation allowance           |  |               | (12,946 | )             |  | (15,545 | )
| |                                       |  |               |         |               |  |         |  
| |                                       |  |               |         |               |  |         |  
| | Deferred tax
  asset                  |  |               | -       |               |  | -       |  
| |                                       |  |               |         |               |  |         |  

| |                                                                                                                                                                                                         
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | If the undistributed earnings of the Singapore subsidiary of
  approximately US$ 144 thousand were to be distributed as a dividend,
  additional taxes of approximately US$ 36 thousand will be payable.

F-31

---

---



|                                                         
|---------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                               
|                                                         
|Notes to the Financial Statements as of December 31, 2004
|                                                         

|           |                       |                                                                                                                                                                              
|---------- | --------------------- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Note 20   | Income Taxes (contd)
|          
|           | G.                    | A
  reconciliation of the theoretical tax expense, assuming all income is taxable
  at the statutory rates applicable in Israel, and the actual tax expense, is
  as follows:

| |                                                                                            |  |                         |        |               |  |               |   |  |        |  
| | ------------------------------------------------------------------------------------------ |  | ----------------------- | ------ | ------------- |  | ------------- | - |  | ------ | -
| |                                                                                            |  | Year ended December 31, |       
| |                                                                                            |  |                         |       
| |                                                                                            |  | 2004                    |        | 2003          |  | 2002          |  
| |                                                                                            |  |                         |        |               |  |               |  
| |                                                                                            |  | US$ thousands           |        | US$ thousands |  | US$ thousands |  
| |                                                                                            |  |                         |        |               |  |               |  
| |                                                                                            |  |                         |        |               |  |               |  
| | Loss before taxes on income                                                                |  |                         | (1,106 | )             |  | (6,297        | ) |  | (4,914 | )
| |                                                                                            |  |                         |        |               |  |               |   |  |        |  
| |                                                                                            |  |                         |        |               |  |               |   |  |        |  
| | Statutory tax rate in Israel                                                               |  |                         | 35     | %             |  | 36            | % |  | 36     | %
| |                                                                                            |  |                         |        |               |  |               |   |  |        |  
| |                                                                                            |  |                         |        |               |  |               |   |  |        |  
| | Theoretical tax benefit                                                                    |  |                         | (387   | )             |  | (2,267        | ) |  | (1,769 | )
| | Losses deductions and expenses in respect
  of which deferred tax assets were not recorded |  |                         | 389    |               |  | 2,289         |   |  | 1,863  |  
| | Taxes in respect of previous years                                                         |  |                         | 54     |               |  | 143           |   |  | 128    |  
| | Non-deductible expenses                                                                    |  |                         | 63     |               |  | 84            |   |  | 107    |  
| | Deductible expenses                                                                        |  |                         | -      |               |  | -             |   |  | (5     | )
| | Change in beginning-of-year valuation
  allowance                                          |  |                         | -      |               |  | -             |   |  | 318    |  
| | Taxes in respect of subsidiary                                                             |  |                         | -      |               |  | -             |   |  | 236    |  
| |                                                                                            |  |                         |        |               |  |               |   |  |        |  
| |                                                                                            |  |                         |        |               |  |               |   |  |        |  
| | Actual tax expense                                                                         |  |                         | 119    |               |  | 249           |   |  | 878    |  
| |                                                                                            |  |                         |        |               |  |               |   |  |        |  

| |                                                                                                                                                                                                                           |                                  
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ---------------------------------
| | H.                                                                                                                                                                                                                        | Income tax assessments           
| |                                                                                                                                                                                                                           |                                  
| | Final tax
  assessments have been received by the Company through the 1998 tax year.                                                                                                                                     
| |                                                                                                                                                                                                                          
| | I.                                                                                                                                                                                                                        | Net operating losses carryforward
| |                                                                                                                                                                                                                           |                                  
| | Net
  operating loss carryforwards as of December 31, 2004 totaled approximately
  US$ 42 million (as of December 31, 2003 approximately US$ 41 million). The net
  operating loss carryforwards have no expiration date.

F-32

---

---



|                                                         
|---------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                               
|                                                         
|Notes to the Financial Statements as of December 31, 2004
|                                                         

|           |                                                                        
|---------- | -----------------------------------------------------------------------
|Note 21   | Monetary Balances in or Linked to
  Currencies Other than the US Dollar

| |                     |  |                     |       |                      |  |                    |  |                      |     |                 |  |                 |  |  |       |  |  |     | 
| | ------------------- |  | ------------------- | ----- | -------------------- |  | ------------------ |  | -------------------- | --- | --------------- |  | --------------- |  |  | ----- |  |  | --- | 
| |                     |  | December
  31, 2004 |       | December
  31, 2003  | 
| |                     |  |                     |       |                      | 
| |                     |  | Israeli
  currency  |       | Foreign
  currencies |  | Israeli
  currency |  | Foreign
  currencies |    
| |                     |  |                     |       |                      |  |                    |  |                      |    
| |                     |  | Linked              |       | Unlinked             |  |                    |  | Linked               |     | Unlinked        |  |                 | 
| |                     |  |                     |       |                      |  |                    |  |                      |     |                 |  |                 | 
| |                     |  | US$
  thousands     |       | US$
  thousands      |  | US$
  thousands    |  | US$
  thousands      |     | US$
  thousands |  | US$
  thousands | 
| |                     |  |                     |       |                      |  |                    |  |                      |     |                 |  |                 |  |  |       |  |  |     | 
| | Assets              |  |                     |       |                      |  |                    |  |                      |     |                 |  |                 |  |  |       |  |  |     | 
| | Current assets      |  |                     | -     |                      |  | 989                |  |                      | 712 |                 |  | -               |  |  | 1,194 |  |  | 520 | 
| | Long-term assets    |  |                     | -     |                      |  | 25                 |  |                      | -   |                 |  | -               |  |  | 25    |  |  | -   | 
| |                     |  |                     |       |                      |  |                    |  |                      |     |                 |  |                 |  |  |       |  |  |     | 
| |                     |  |                     |       |                      |  |                    |  |                      |     |                 |  |                 |  |  |       |  |  |     | 
| |                     |  |                     | -     |                      |  | 1,104              |  |                      | 712 |                 |  | -               |  |  | 1,219 |  |  | 520 | 
| |                     |  |                     |       |                      |  |                    |  |                      |     |                 |  |                 |  |  |       |  |  |     | 
| |                     |  |                     |       |                      |  |                    |  |                      |     |                 |  |                 |  |  |       |  |  |     | 
| |                     |  |                     |       |                      |  |                    |  |                      |     |                 |  |                 |  |  |       |  |  |     | 
| | Liabilities         |  |                     |       |                      |  |                    |  |                      |     |                 |  |                 |  |  |       |  |  |     | 
| | Current liabilities |  |                     | 1,433 |                      |  | 1,633              |  |                      | 408 |                 |  | 1,273           |  |  | 2,323 |  |  | 488 | 
| |                     |  |                     |       |                      |  |                    |  |                      |     |                 |  |                 |  |  |       |  |  |     | 
| |                     |  |                     |       |                      |  |                    |  |                      |     |                 |  |                 |  |  |       |  |  |     | 
| |                     |  |                     |       |                      |  |                    |  |                      |     |                 |  |                 |  |  |       |  |  |     | 
| |                     |  |                     |       |                      |  |                    |  |                      |     |                 |  |                 |  |  |       |  |  |     | 
| |                     |  |                     |       |                      |  |                    |  |                      |     |                 |  |                 |  |  |       |  |  |     | 
| |                     |  |                     | 1,433 |                      |  | 1,633              |  |                      | 408 |                 |  | 1,273           |  |  | 2,323 |  |  | 488 | 
| |                     |  |                     |       |                      |  |                    |  |                      |     |                 |  |                 |  |  |       |  |  |     | 

F-33

---

---



|                                                         
|---------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                               
|                                                         
|Notes to the Financial Statements as of December 31, 2004
|                                                         

|           |                                                                                               |                                              
|---------- | --------------------------------------------------------------------------------------------- | ---------------------------------------------
|Note 22   | Supplementary Statement of Operation
  Information                                           
|           |                                                                                              
|           | A.                                                                                            | Summary information about geographical areas:
|           |                                                                                               |                                              
|           | Total
  revenues are attributed to geographic areas based on the location of the
  customers.

| |                                                               |  |                         |        |               |  |               |   |  |        |  
| | ------------------------------------------------------------- |  | ----------------------- | ------ | ------------- |  | ------------- | - |  | ------ | -
| |                                                               |  | Year ended December 31, |       
| |                                                               |  |                         |       
| |                                                               |  | 2004                    |        | 2003          |  | 2002          |  
| |                                                               |  |                         |        |               |  |               |  
| |                                                               |  | US$ thousands           |        | US$ thousands |  | US$ thousands |  
| |                                                               |  |                         |        |               |  |               |  
|
| | Total revenues from:                                          |  |                         |        |               |  |               |   |  |        |  
| | Israel                                                        |  |                         | 824    |               |  | 1,181         |   |  | 406    |  
| | Far East                                                      |  |                         | 4,596  |               |  | 10,391        |   |  | 19,462 |  
| | Italy                                                         |  |                         | 1,525  |               |  | 842           |   |  | 5,108  |  
| | Rest of Europe                                                |  |                         | 1,185  |               |  | 1,199         |   |  | 2,738  |  
| | America                                                       |  |                         | 4,554  |               |  | 854           |   |  | -      |  
| | Africa                                                        |  |                         | -      |               |  | -             |   |  | 576    |  
| |                                                               |  |                         |        |               |  |               |   |  |        |  
| |                                                               |  |                         |        |               |  |               |   |  |        |  
| |                                                               |  |                         | 12,684 |               |  | 14,467        |   |  | 28,290 |  
| |                                                               |  |                         |        |               |  |               |   |  |        |  
| |                                                               |  |                         |        |               |  |               |   |  |        |  
| | Major customers data as a percentage of the
  total revenues: |  |                         |        |               |  |               |   |  |        |  
| |                                                               |  |                         |        |               |  |               |   |  |        |  
| | Customer A                                                    |  |                         | 34     | %             |  | -             | * |  | -      | *
| | Customer B                                                    |  |                         | 27     | %             |  | 58            | % |  | 41     | %
| | Customer C                                                    |  |                         | 12     | %             |  | -             | * |  | 18     | %
| | Customer D                                                    |  |                         | -      | *             |  | -             | * |  | 27     | %
| |                                                               |  |                         |        |               |  |               |   |  |        |  
| |                                                               |  |                         |        |               |  |               |   |  |        |  
| |                                                               |  |                         | 73     | %             |  | 58            | % |  | 86     | %
| |                                                               |  |                         |        |               |  |               |   |  |        |  

| |                                                                                                                                                                                                                                                                                                        |                                      
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------ | -------------------------------------
| | *   Less than 10%.                                                                                                                                                                                                                                                                                    
| |                                                                                                                                                                                                                                                                                                        |                                      
| | B.                                                                                                                                                                                                                                                                                                     | Income from royalties and commissions
| |                                                                                                                                                                                                                                                                                                        |                                      
| | In the
  Cooperation agreement the Company signed with MLM, it was provided that in
  respect of those territories in which the project is carried out by one
  party, royalties will be paid to the other party.  The rate of royalties is mainly 4% - 12.5% of the contract
  price (see Note 19A1).

F-34

---

---



|                                                           
|-----------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                                 
|                                                           
|Notes to the Financial Statements as of
  December 31, 2004
|                                                           

|           |                                                             |              
|---------- | ----------------------------------------------------------- | -------------
|Note 22   | Supplementary
  Statement of Operation Information (contd)
|           |                                                             |              
|           | C.                                                          | Cost of sales

| |                                         |  |                           |        |               |  |               |  |  |        | 
| | --------------------------------------- |  | ------------------------- | ------ | ------------- |  | ------------- |  |  | ------ | 
| |                                         |  | Year ended
  December 31, |       
| |                                         |  |                           |       
| |                                         |  | 2004                      |        | 2003          |  | 2002          | 
| |                                         |  |                           |        |               |  |               | 
| |                                         |  | US$ thousands             |        | US$ thousands |  | US$ thousands | 
| |                                         |  |                           |        |               |  |               | 
| |                                         |  |                           |        |               |  |               |  |  |        | 
| | Raw materials and components            |  |                           | 1,829  |               |  | 1,646         |  |  | 6,481  | 
| | Salaries, wages and employees benefits |  |                           | 2,488  |               |  | 4,403         |  |  | 6,071  | 
| | Subcontractors                          |  |                           | 3,217  |               |  | 3,455         |  |  | 5,778  | 
| | Agents fees                             |  |                           | 691    |               |  | 657           |  |  | 1,818  | 
| | Depreciation                            |  |                           | 327    |               |  | 477           |  |  | 652    | 
| | Other manufacturing costs               |  |                           | 1,679  |               |  | 2,987         |  |  | 2,915  | 
| |                                         |  |                           |        |               |  |               |  |  |        | 
| |                                         |  |                           |        |               |  |               |  |  |        | 
| |                                         |  |                           | 10,231 |               |  | 13,625        |  |  | 23,715 | 
| |                                         |  |                           |        |               |  |               |  |  |        | 

| |    |                
| | -- | ---------------
| | D. | Financial items

| |                                                                           |  |                           |      |                 |  |                 |   |  |       |  
| | ------------------------------------------------------------------------- |  | ------------------------- | ---- | --------------- |  | --------------- | - |  | ----- | -
| |                                                                           |  | Year ended
  December 31, |     
| |                                                                           |  |                           |     
| |                                                                           |  | 2004                      |      | 2003            |  | 2002            |  
| |                                                                           |  |                           |      |                 |  |                 |  
| |                                                                           |  | US$
  thousands           |      | US$
  thousands |  | US$
  thousands |  
| |                                                                           |  |                           |      |                 |  |                 |  
| |                                                                           |  |                           |      |                 |  |                 |  
| | Financial income:                                                         |  |                           |      |                 |  |                 |   |  |       |  
| | Interest on short-term deposits                                           |  |                           | 7    |                 |  | 41              |   |  | 83    |  
| | Interest on loans to others and interest
  from non-current
  receivables |  |                           | 17   |                 |  | 57              |   |  | 98    |  
| | Other                                                                     |  |                           | 37   |                 |  | 240             |   |  | -     |  
| |                                                                           |  |                           |      |                 |  |                 |   |  |       |  
| |                                                                           |  |                           |      |                 |  |                 |   |  |       |  
| |                                                                           |  |                           | 61   |                 |  | 338             |   |  | 181   |  
| |                                                                           |  |                           |      |                 |  |                 |   |  |       |  
| |                                                                           |  |                           |      |                 |  |                 |   |  |       |  
| | Financial expenses:                                                       |  |                           |      |                 |  |                 |   |  |       |  
| | Bank charges and interest on short-term
  credit                          |  |                           | 469  |                 |  | 838             |   |  | 878   |  
| | Other                                                                     |  |                           | 88   |                 |  | 207             |   |  | 158   |  
| |                                                                           |  |                           |      |                 |  |                 |   |  |       |  
| |                                                                           |  |                           |      |                 |  |                 |   |  |       |  
| |                                                                           |  |                           | 557  |                 |  | 1,045           |   |  | 1,036 |  
| |                                                                           |  |                           |      |                 |  |                 |   |  |       |  
| |                                                                           |  |                           |      |                 |  |                 |   |  |       |  
| | Total financial expenses                                                  |  |                           | (496 | )               |  | (707            | ) |  | (855  | )
| |                                                                           |  |                           |      |                 |  |                 |   |  |       |  

F-35

---

---



|                                                           
|-----------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                                 
|                                                           
|Notes to the Financial Statements as of
  December 31, 2004
|                                                           

|           |                                                             |                             
|---------- | ----------------------------------------------------------- | ----------------------------
|Note 22   | Supplementary
  Statement of Operation Information (contd)
|           |                                                             |                             
|           | E.                                                          | Other (income) expenses, net

| |                                                                   |  |                 |      |                 |  |                 |   |  |     |  
| | ----------------------------------------------------------------- |  | --------------- | ---- | --------------- |  | --------------- | - |  | --- | -
| |                                                                   |  | 2004            |      | 2003            |  | 2002            |  
| |                                                                   |  |                 |      |                 |  |                 |  
| |                                                                   |  | US$
  thousands |      | US$
  thousands |  | US$
  thousands |  
| |                                                                   |  |                 |      |                 |  |                 |  
| |                                                                   |  |                 |      |                 |  |                 |   |  |     |  
| | Write-down of investment in available for
  for sale securities   |  |                 | -    |                 |  | -               |   |  | 141 |  
| | Gain from sale of available for sale
  securities                 |  |                 | -    |                 |  | (47             | ) |  | -   |  
| | Gain on forgiveness of long-term loan from
  former related party |  |                 | (177 | )               |  | -               |   |  | -   |  
| | Others                                                            |  |                 | (15  | )               |  | (8              | ) |  | (1  | )
| |                                                                   |  |                 |      |                 |  |                 |   |  |     |  
| |                                                                   |  |                 |      |                 |  |                 |   |  |     |  
| |                                                                   |  |                 | (192 | )               |  | (55             | ) |  | 140 |  
| |                                                                   |  |                 |      |                 |  |                 |   |  |     |  

| |    |                                                        
| | -- | -------------------------------------------------------
| | F. | Supplementary information on statements of
  operations

| |                      |  |  |     |  |  |     |  |  |     | 
| | -------------------- |  |  | --- |  |  | --- |  |  | --- | 
| | Rent                 |  |  | 349 |  |  | 565 |  |  | 574 | 
| |                      |  |  |     |  |  |     |  |  |     | 
| |                      |  |  |     |  |  |     |  |  |     | 
| | Advertising
  costs  |  |  | 16  |  |  | 35  |  |  | 61  | 
| |                      |  |  |     |  |  |     |  |  |     | 
| |                      |  |  |     |  |  |     |  |  |     | 
| | Royalties
  expenses |  |  | 365 |  |  | 437 |  |  | 671 | 
| |                      |  |  |     |  |  |     |  |  |     | 

|           |                                                                                                                                                                                                                                                 |                                                                      
|---------- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ---------------------------------------------------------------------
|Note 23   | Related
  Parties                                                                                                                                                                                                                              
|           |                                                                                                                                                                                                                                                 |                                                                      
|           | A.                                                                                                                                                                                                                                              | Balances                                                             
|           |                                                                                                                                                                                                                                                 |                                                                      
|           | Related
  parties are comprised of principal shareholders (10% holding of the Companys
  share capital) and their subsidiaries and affiliates as well as affiliates of
  the Company. Transactions with related parties are mainly as follows:
|           |                                                                                                                                                                                                                                                 |                                                                      
|           | 1.                                                                                                                                                                                                                                              | Sales of the
  Companys products and expenses related to such sales.
|           | 2.                                                                                                                                                                                                                                              | Interest
  payable on loans received.                                
|           | 3.                                                                                                                                                                                                                                              | Payment of
  Management fees.                                        
|           | 4.                                                                                                                                                                                                                                              | Purchases of
  services and products.                                

F-36

---

---



|                                                           
|-----------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                                 
|                                                           
|Notes to the Financial Statements as of
  December 31, 2004
|                                                           

|           |                                                                                                                                         |                  
|---------- | --------------------------------------------------------------------------------------------------------------------------------------- | -----------------
|Note 23   | Related
  Parties (contd)                                                                                                             
|           |                                                                                                                                         |                  
|           | A.                                                                                                                                      | Balances (contd)
|           |                                                                                                                                         |                  
|           | All
  transactions, and terms with related parties were identical to those applied
  to transactions with other customers or suppliers.

| |                           |  |   |                                            |  |               |       |               |  |       | 
| | ------------------------- |  | - | ------------------------------------------ |  | ------------- | ----- | ------------- |  | ----- | 
| |                           |  |   |                                            |  | December 31,  |      
| |                           |  |   |                                            |  |               |      
| |                           |  |   |                                            |  | 2004          |       | 2003          | 
| |                           |  |   |                                            |  |               |       |               | 
| |                           |  |   |                                            |  | US$ thousands |       | US$ thousands | 
| |                           |  |   |                                            |  |               |       |               | 
| |                           |  |   |                                            |  |               |       |               |  |       | 
| | Due from:                 |  |   |                                            |  |               |       |               |  |       | 
| | Cash and cash equivalents |  | - | Bank Leumi Ltd.                            |  |               | 542   |               |  | -     | 
| | Restricted bank deposits  |  | - | Bank Leumi Ltd.                            |  |               | 1,300 |               |  | -     | 
| |                           |  |   |                                            |  |               |       |               |  |       | 
| | Trade receivables         |  | - | Aeronautics                                |  |               | 18    |               |  | -     | 
| |                           |  |   | Israel Aircraft Industries
  Ltd. (*)      |  |               | -     |               |  | 1,788 | 
| |                           |  |   | ST Training and Simulation
  Pte Ltd.      |  |               | 287   |               |  | -     | 
| |                           |  |   |                                            |  |               |       |               |  |       | 
| | Other receivables         |  | - | Bank Leumi Ltd.                            |  |               | 44    |               |  | -     | 
| |                           |  |   |                                            |  |               |       |               |  |       | 
| | Due to:                   |  |   |                                            |  |               |       |               |  |       | 
| | Short-term bank credit    |  | - | Bank Leumi Ltd.                            |  |               | 229   |               |  | -     | 
| |                           |  |   |                                            |  |               |       |               |  |       | 
| | Trade payable             |  | - | Israel Aircraft Industries
  Ltd. (*)      |  |               | -     |               |  | 989   | 
| |                           |  |   |                                            |  |               |       |               |  |       | 
| | Other payable             |  | - | Elisra
  Electronic Systems Ltd. (*)       |  |               | -     |               |  | 172   | 
| |                           |  |   | Israel Aircraft Industries
  Ltd. (*)      |  |               | -     |               |  | 192   | 
| |                           |  |   | Leumi Bank Ltd.                            |  |               | 7     |               |  | -     | 
| |                           |  |   |                                            |  |               |       |               |  |       | 
| | Short-term loan           |  | - | Chun Holding L.P.                          |  |               | -     |               |  | 430   | 
| | Long-term loan            |  | - | Polar Investments Ltd.                     |  |               | -     |               |  | 62    | 
| |                           |  |   | Koonras Technologies Ltd.                  |  |               | -     |               |  | 38    | 
| |                           |  |   | Elisra
  Electronic Systems Ltd. (*)       |  |               | -     |               |  | 381   | 
| |                           |  |   | Clal Industries and
  Investments Ltd. (*) |  |               | -     |               |  | 120   | 
| |                           |  |   | Leumi Bank Ltd.                            |  |               | 457   |               |  | -     | 
| |                           |  |   |                                            |  |               |       |               |  |       | 

| |     |                                       
| | --- | --------------------------------------
| | (*) | A related
  party until December 2003.

F-37

---

---



|                                                           
|-----------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                                 
|                                                           
|Notes to the Financial Statements as of
  December 31, 2004
|                                                           

|           |                            |                                  
|---------- | -------------------------- | ---------------------------------
|Note 23   | Related
  Parties (contd)
|           |                            |                                  
|           | B.                         | Transactions with related parties

| |                                                                                       |  |                           |     |                 |  |                 |  |  |     | 
| | ------------------------------------------------------------------------------------- |  | ------------------------- | --- | --------------- |  | --------------- |  |  | --- | 
| |                                                                                       |  | Year ended
  December 31, |    
| |                                                                                       |  |                           |    
| |                                                                                       |  | 2004                      |     | 2003            |  | 2002            | 
| |                                                                                       |  |                           |     |                 |  |                 | 
| |                                                                                       |  | US$
  thousands           |     | US$
  thousands |  | US$
  thousands | 
| |                                                                                       |  |                           |     |                 |  |                 | 
| |                                                                                       |  |                           |     |                 |  |                 |  |  |     | 
| | Income from sales (1)(3) (6) (8)                                                      |  |                           | 940 |                 |  | 1,961           |  |  | 70  | 
| | Cost of sales (mainly Royalties and
  components for systems manufacturing) (1)(2)(3) |  |                           | -   |                 |  | 604             |  |  | 245 | 
| | Marketing expenses(9)                                                                 |  |                           | 15  |                 |  | -               |  |  | -   | 
| | General and administrative expenses (1)
  (4)                                         |  |                           | 181 |                 |  | 370             |  |  | 363 | 
| | Finance expenses, net (5) (7)                                                         |  |                           | 215 |                 |  | -               |  |  | 9   | 
| | Other income(6)                                                                       |  |                           | 15  |                 |  | -               |  |  | -   | 

| |     |                                                                                                                                                                                                                                                                                                                                                                                                                                                         
| | --- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | (1) | To
  Elisra (*)                                                                                                                                                                                                                                                                                                                                                                                                                                         
| | (2) | To
  Tadiran Spectralink (*)                                                                                                                                                                                                                                                                                                                                                                                                                            
| | (3) | To
  Israel Aircraft Industries Ltd. (*)                                                                                                                                                                                                                                                                                                                                                                                                                
| | (4) | Including
  the salary of the CEO and fees paid to directors.                                                                                                                                                                                                                                                                                                                                                                                           
| | (5) | On
  May 15, 2003, the Company obtained a US$4.0 million credit line from Elisra
  Electronics Systems Ltd. (*) (Elisra) of which $500,000 were not utilized,
  which bears interest at the rate of three months LIBOR plus 1%. The proceeds
  of this loan were used to finance the Companys operation until receiving, in
  the third quarter of 2002, a payment of approximately US$12.5 million,
  following which the loan was repaid to Elisra.
| | (6) | To
  Aeronautics                                                                                                                                                                                                                                                                                                                                                                                                                                        
| | (7) | To
  Leumi Bank                                                                                                                                                                                                                                                                                                                                                                                                                                         
| | (8) | To ST
  Training and Simulation Pte Ltd.                                                                                                                                                                                                                                                                                                                                                                                                                
| | (9) | To
  Prescient Systems and Technologies Pte Ltd.                                                                                                                                                                                                                                                                                                                                                                                                        
| |     |                                                                                                                                                                                                                                                                                                                                                                                                                                                         
| | (*) | A related party until
  December 2003                                                                                                                                                                                                                                                                                                                                                                                                                   

|           |                                                                |                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|---------- | -------------------------------------------------------------- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Note 24   | Effect of
  Material Differences Between Israeli and U.S. GAAP
|           |                                                                |                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|           | A.                                                             | The
  consolidated financial statements of the Company conform with generally
  accepted accounting principles in Israel (Israeli GAAP), which differ in
  certain significance respects from those followed in the United States (U.S.
  GAAP), as described below:                                                                                                                                                                         
|           |                                                                |                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|           | 1.                                                             | Comprehensive Income                                                                                                                                                                                                                                                                                                                                                                                                                             
|           |                                                                |                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|           |                                                                | Israeli GAAP
  does not require disclosure of comprehensive income.                                                                                                                                                                                                                                                                                                                                                                              
|           |                                                                | Under U.S. GAAP, the amount of comprehensive income, comprising net
  income and items described as other comprehensive income, such
  as foreign currency translation adjustments, unrealized gains and losses on
  available-for-sale securities and changes in the fair value of derivatives
  that qualify as cash flow hedges, should be reported separately in the
  financial statements as a component of other comprehensive income.

F-38

---

---



|                                                           
|-----------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                                 
|                                                           
|Notes to the Financial Statements as of
  December 31, 2004
|                                                           

|           |                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|---------- | ----------------------------------------------------------------------- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Note 24   | Effect of
  Material Differences Between Israeli and U.S. GAAP (contd)
|           |                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|           | A.                                                                      | The
  consolidated financial statements of the Company conform with generally
  accepted accounting principles in Israel (Israeli GAAP), which differ in
  certain significant respects from those followed in the United States (U.S.
  GAAP), as described below: (contd)                                                                                                                                                                                                                                                                                                                                                                                                                  
|           |                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|           | 2.                                                                      | Earnings per share                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|           |                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|           |                                                                         | According to
  Israeli GAAP                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|          
|           |                                                                         | The effect
  of options and warrants is included in the computation of basic earnings per
  share only if their exercise is considered probable, based on the ordinary
  relationship between the market price of the shares stemming from the
  exercise of the warrants and the discounted present value of the future
  proceeds derived from the exercise of the options and warrants.                                                                                                                                                                                                                                                                                                        
|           |                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|           |                                                                         | The effect
  of convertible debentures is taken into account in the computation of basic
  earnings per share only if their conversion is considered probable, based on
  the relationship between the market price of the shares stemming from the
  conversion and the discounted present value of the convertible debentures.                                                                                                                                                                                                                                                                                                                                                                  
|           |                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|           |                                                                         | Diluted
  earnings (losses) per share are computed based on the weighted average number
  of Ordinary Shares used for computing the basic earnings per share plus
  options, warrants and convertible debentures which were not included in the
  basic earnings per share calculation and which are not anti-dilutive.                                                                                                                                                                                                                                                                                                                                                                           
|           |                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|           |                                                                         | According to
  U.S. GAAP                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|           |                                                                         | U.S. GAAP
  also requires dual presentation of basic and diluted earnings per share for
  entities with complex capital structures as well as a reconciliation of the
  basic EPS computation to the diluted EPS computation.  Basic EPS is calculated by dividing net
  income available to ordinary stockholders, by the weighted average number of
  common shares outstanding. The computation of diluted EPS assumes the
  issuance of common shares for all dilutive-potential common shares outstanding during the reporting period. The dilutive
  effect of stock options is considered in earnings per share calculations if
  dilutive, using the if converted treasury stock method.

F-39

---

---



|                                                         
|---------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                               
|                                                         
|Notes to the Financial Statements as of December 31, 2004
|                                                         

|           |                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|---------- | ----------------------------------------------------------------------- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Note 24   | Effect of
  Material Differences Between Israeli and U.S. GAAP (contd)
|           |                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           | A.                                                                      | The consolidated
  financial statements of the Company conform with generally accepted
  accounting principles in Israel (Israeli GAAP), which differ in certain
  significant respects from those followed in the United States (U.S. GAAP),
  as described below: (contd)                                                                                                                                                                                                                                                                                                                                                                                         
|           |                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           | 3.                                                                      | Liability for termination of
  employer-employee relations                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|           |                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                                                         | According to
  Israeli GAAP                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|           |                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                                                         | Amounts
  funded by purchase of insurance policies are deducted from the related
  severance pay liability.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|           |                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                                                         | According to
  U.S. GAAP                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|           |                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                                                         | According to
  U.S. GAAP, the amounts funded should be presented as long-term investments
  and the gross amount of the liability should be presented as a long-term
  liability.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|           |                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           | 4.                                                                      | Stock options granted to
  employees, service providers and other non-employees and stock issued to
  service providers                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|           |                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                                                         | According to
  Israeli GAAP                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|           |                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                                                         | The Company records expenses with respect to stock options granted to
  employees and service providers that provide similar services to those that
  are provided by employees, in accordance with the intrinsic value method that
  is prescribed by APB 25, Accounting for Stock issued to Employees.  Shares issued to service providers are
  recorded based on the fair value at the grant date of the shares issued.                                                                                                                                                                                                                                              
|           |                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                                                         | According to
  US GAAP                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|           |                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                                                         | Stock
  options granted to employees                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|           |                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                                                         | The Company
  apply the intrinsic value-based method of accounting prescribed by Accounting
  Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to
  Employees, and related interpretations in accounting for its fixed plan stock
  options.                                                                                                                                                                                                                                                                                                                                                                                                         
|           |                                                                         | Under APB 25,
  when the exercise price of the Companys employee stock options equals or is
  above the market price of the underlying stock on the date of grant, no
  compensation expense is recognized.                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|           |                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                                                         | Stock
  options granted to service providers and other non-employees and stock issued
  to service providers                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|           |                                                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                                                         | The Company
  accounts for such awards in accordance with the provisions of EITF 96-18,
  Accounting for Equity Instruments That are Issued to Other than employees for
  Acquiring, or in conjunction of Selling, Goods or Services (EITF
  96-18).  Since the warrants issued by
  the Company are not fully vested, and no performance commitment, as defined
  in EITF 96-18 is reached, the Company estimates the cost of the unvested warrants
  based on the fair value of the warrants at each reporting period (using the
  Black & Scholes model) and accounts for the portion of the services that
  the recipient has rendered to date using that estimate.

F-40

---

---



|                                                         
|---------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                               
|                                                         
|Notes to the Financial Statements as of December 31, 2004
|                                                         

|           |                                                                         |                                                                                                                                       
|---------- | ----------------------------------------------------------------------- | --------------------------------------------------------------------------------------------------------------------------------------
|Note 24   | Effect of
  Material Differences Between Israeli and U.S. GAAP (contd)
|           |                                                                         |                                                                                                                                       
|           | B.                                                                      | The effect of the differences between
  Israeli and U.S. GAAP of the aforementioned items on the financial statements
  is as follows:
|           |                                                                         |                                                                                                                                       
|           | 1.                                                                      | On statements of income                                                                                                               

| |     |                                                                                                                                                |  |                         |        |               |  |               |   |  |        |  
| | --- | ---------------------------------------------------------------------------------------------------------------------------------------------- |  | ----------------------- | ------ | ------------- |  | ------------- | - |  | ------ | -
| |     |                                                                                                                                                |  | Year ended December 31, |       
| |     |                                                                                                                                                |  |                         |       
| |     |                                                                                                                                                |  | 2004                    |        | 2003          |  | 2002          |  
| |     |                                                                                                                                                |  |                         |        |               |  |               |  
| |     |                                                                                                                                                |  | US$ thousands           |        | US$ thousands |  | US$ thousands |  
| |     |                                                                                                                                                |  |                         |        |               |  |               |  
| |     |                                                                                                                                                |  |                         |        |               |  |               |  
| |     | Net loss as reported, according to Israeli GAAP                                                                                                |  |                         | (1,225 | )             |  | (6,546        | ) |  | (5,792 | )
| |     |                                                                                                                                                |  |                         |        |               |  |               |   |  |        |  
| |     | GAAP differences:                                                                                                                              |  |                         |        |               |  |               |   |  |        |  
| |     |                                                                                                                                                |  |                         |        |               |  |               |   |  |        |  
| |     | Allocation
  of non-employee stock option expenses under the fair value based method for
  all amounts, net of related tax effects             |  |                         | (410   | )             |  | -             |   |  | -      |  
| |     |                                                                                                                                                |  |                         |        |               |  |               |   |  |        |  
| |     |                                                                                                                                                |  |                         |        |               |  |               |   |  |        |  
| |     | Net loss under
  U.S. GAAP                                                                                                                     |  |                         | (1,635 | )             |  | (6,546        | ) |  | (5,792 | )
| |     |                                                                                                                                                |  |                         |        |               |  |               |   |  |        |  
| |     |                                                                                                                                                |  |                         |        |               |  |               |   |  |        |  
| | I.  | Basic and diluted net (loss) income per
  share  (in U.S. $)                                                                                   |  |                         |        |               |  |               |   |  |        |  
| |     |                                                                                                                                                |  |                         |        |               |  |               |   |  |        |  
| |     | As reported, according to Israeli GAAP                                                                                                         |  |                         | (0.01  | )             |  | (0.61         | ) |  | (0.54  | )
| |     |                                                                                                                                                |  |                         |        |               |  |               |   |  |        |  
| |     |                                                                                                                                                |  |                         |        |               |  |               |   |  |        |  
| |     | According to U.S. GAAP                                                                                                                         |  |                         | (0.02  | )             |  | (0.61         | ) |  | (0.54  | )
| |     |                                                                                                                                                |  |                         |        |               |  |               |   |  |        |  
| |     |                                                                                                                                                |  |                         |        |               |  |               |   |  |        |  
| | II. | Weighted average number of Ordinary Shares
  outstanding (in thousands) used in basic and diluted loss per share
  calculation under U.S. GAAP |  |                         | 75,962 |               |  | 10,661        |   |  | 10,660 |  
| |     |                                                                                                                                                |  |                         |        |               |  |               |   |  |        |  

F-41

---

---



|                                                         
|---------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                               
|                                                         
|Notes to the Financial Statements as of December 31, 2004
|                                                         

|           |                                                                         |                       
|---------- | ----------------------------------------------------------------------- | ----------------------
|Note 24   | Effect of
  Material Differences Between Israeli and U.S. GAAP (contd)
|           |                                                                         |                       
|           | 2.                                                                      | On balance sheet items

|                                               |  |               |        |            |  |                  |  |               |        |            |  |                  |   |  |     |  |  |         |  
|---------------------------------------------- |  | ------------- | ------ | ---------- |  | ---------------- |  | ------------- | ------ | ---------- |  | ---------------- | - |  | --- |  |  | ------- | -
|                                               |  | December 31,  |       
|                                               |  |               |       
|                                               |  | 2004          |        | 2003       | 
|                                               |  |               |        |            | 
|                                               |  | US$ thousands |       
|                                               |  |               |       
|                                               |  | As
  Reported |        | Adjustment |  | As per
  US GAAP |  | As
  Reported |        | Adjustment |  | As per
  US GAAP |  
|                                               |  |               |        |            |  |                  |  |               |        |            |  |                  |  
|                                               |  |               |        |            |  |                  |  |               |        |            |  |                  |  
|Severance
  pay fund                           |  |               | -      |            |  | 1,108            |  |               | 1,108  |            |  | -                |   |  | 969 |  |  | 969     |  
|                                               |  |               |        |            |  |                  |  |               |        |            |  |                  |   |  |     |  |  |         |  
|                                               |  |               |        |            |  |                  |  |               |        |            |  |                  |   |  |     |  |  |         |  
|Total assets                                   |  |               | 13,683 |            |  | 1,108            |  |               | 14,791 |            |  | 11,403           |   |  | 969 |  |  | 12,372  |  
|                                               |  |               |        |            |  |                  |  |               |        |            |  |                  |   |  |     |  |  |         |  
|                                               |  |               |        |            |  |                  |  |               |        |            |  |                  |   |  |     |  |  |         |  
|Liability for employee severance benefits, net |  |               | 69     |            |  | 1,108            |  |               | 1,177  |            |  | 460              |   |  | 969 |  |  | 1,429   |  
|                                               |  |               |        |            |  |                  |  |               |        |            |  |                  |   |  |     |  |  |         |  
|                                               |  |               |        |            |  |                  |  |               |        |            |  |                  |   |  |     |  |  |         |  
|Total liabilities                              |  |               | 10,074 |            |  | 1,108            |  |               | 11,182 |            |  | 21,597           |   |  | 969 |  |  | 22,548  |  
|                                               |  |               |        |            |  |                  |  |               |        |            |  |                  |   |  |     |  |  |         |  
|                                               |  |               |        |            |  |                  |  |               |        |            |  |                  |   |  |     |  |  |         |  
|Total
  shareholders equity (deficit)         |  |               | 3,609  |            |  | -                |  |               | 3,609  |            |  | (10,176          | ) |  | -   |  |  | (10,176 | )
|                                               |  |               |        |            |  |                  |  |               |        |            |  |                  |   |  |     |  |  |         |  

| |    |                                                                            
| | -- | ---------------------------------------------------------------------------
| | 3. | On statements of cash flow                                                 
| |    |                                                                            
| |    | According to
  U.S. GAAP, supplemental disclosures are required as follows:

| |                   |  |                        |     |               |  |               | 
| | ----------------- |  | ---------------------- | --- | ------------- |  | ------------- | 
| |                   |  | Year ended December 31 |    
| |                   |  |                        |    
| |                   |  | 2004                   |     | 2003          |  | 2002          | 
| |                   |  |                        |     |               |  |               | 
| |                   |  | US$ thousands          |     | US$ thousands |  | US$ thousands | 
| |                   |  |                        |     |               |  |               | 
| |                   |  |                        |     |               |  |               | 
| | Income tax
  paid |  |                        | 26  |               |  | 28            | 
| |                   |  |                        |     |               |  |               | 
| |                   |  |                        |     |               |  |               | 
| | Interest
  paid   |  |                        | 191 |               |  | 483           | 
| |                   |  |                        |     |               |  |               | 

F-42

---

---



|                                                         
|---------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                               
|                                                         
|Notes to the Financial Statements as of December 31, 2004
|                                                         

|           |                                                                         |                                                  
|---------- | ----------------------------------------------------------------------- | -------------------------------------------------
|Note 24   | Effect of
  Material Differences Between Israeli and U.S. GAAP (contd)
|           |                                                                         |                                                  
|           | 4.                                                                      | On Statement of Changes in Shareholders
  Equity

|                                                             |  |                 |            |                          |  |                                            |   |                    |        |                   |  |                   |   |  |         |   |  |         |  
|------------------------------------------------------------ |  | --------------- | ---------- | ------------------------ |  | ------------------------------------------ | - | ------------------ | ------ | ----------------- |  | ----------------- | - |  | ------- | - |  | ------- | -
|                                                             |  | Share capital   |            | Additionalpaid-incapital |  | Accumulatedothercomprehensiveincome (loss) |   | Accumulateddeficit |        | Total             | 
|                                                             |  |                 |            |                          |  |                                            |  
|                                                             |  | Number ofshares |            | Amount                   |  |                                            |   |                    |       
|                                                             |  |                 |            |                          |  |                                            |   |                    |        |                   |  |                   |  
|                                                             |  |                 |            | US$
  (thousands)        |  | US$
  (thousands)                          |   | US$
  (thousands)  |        | US$
  (thousands) |  | US$
  (thousands) |  
|                                                             |  |                 |            |                          |  |                                            |   |                    |        |                   |  |                   |  
|Balance as of January 1, 2002                                |  |                 | 10,659,701 |                          |  | 2,529                                      |   |                    | 21,408 |                   |  | (38               | ) |  | (21,775 | ) |  | 2,124   |  
|                                                             |  |                 |            |                          |  |                                            |   |                    |        |                   |  |                   |   |  |         |   |  |         |  
|Changes during 2002:                                         |  |                 |            |                          |  |                                            |   |                    |        |                   |  |                   |   |  |         |   |  |         |  
|Net loss for the year                                        |  |                 | -          |                          |  | -                                          |   |                    | -      |                   |  | -                 |   |  | (5,792  | ) |  | (5,792  | )
|Realized loss on investment in available for sale
securities |  |                 | -          |                          |  | -                                          |   |                    | -      |                   |  | 61                |   |  | -       |   |  | 61      |  
|Realization of profit deriving from financial
instruments    |  |                 | -          |                          |  | -                                          |   |                    | -      |                   |  | (1                | ) |  | -       |   |  | (1      | )
|                                                             |  |                 |            |                          |  |                                            |   |                    |        |                   |  |                   |   |  |         |   |  |         |  
|Comprehensive loss                                           |  |                 |            |                          |  |                                            |   |                    |        |                   |  |                   |   |  |         |   |  | (5,732  | )
|                                                             |  |                 |            |                          |  |                                            |   |                    |        |                   |  |                   |   |  |         |   |  |         |  
|Issuance of Ordinary Shares                                  |  |                 | 1,173      |                          |  | (1                                         | ) |                    | -      |                   |  | -                 |   |  | -       |   |  | -       |  
|                                                             |  |                 |            |                          |  |                                            |   |                    |        |                   |  |                   |   |  |         |   |  |         |  
|                                                             |  |                 |            |                          |  |                                            |   |                    |        |                   |  |                   |   |  |         |   |  |         |  
|Balance as of December 31, 2002                              |  |                 | 10,660,874 |                          |  | 2,529                                      |   |                    | 21,408 |                   |  | 22                |   |  | (27,567 | ) |  | (3,608  | )
|                                                             |  |                 |            |                          |  |                                            |   |                    |        |                   |  |                   |   |  |         |   |  |         |  
|                                                             |  |                 |            |                          |  |                                            |   |                    |        |                   |  |                   |   |  |         |   |  |         |  
|Changes during 2003:                                         |  |                 |            |                          |  |                                            |   |                    |        |                   |  |                   |   |  |         |   |  |         |  
|Net loss for the year                                        |  |                 | -          |                          |  | -                                          |   |                    | -      |                   |  | -                 |   |  | (6,546  | ) |  | (6,546  | )
|Realization of profit deriving from financial
instruments    |  |                 | -          |                          |  | -                                          |   |                    | -      |                   |  | (22               | ) |  | -       |   |  | (22     | )
|                                                             |  |                 |            |                          |  |                                            |   |                    |        |                   |  |                   |   |  |         |   |  |         |  
|Comprehensive loss                                           |  |                 | -          |                          |  | -                                          |   |                    | -      |                   |  | -                 |   |  | -       |   |  | (6,568  | )
|                                                             |  |                 |            |                          |  |                                            |   |                    |        |                   |  |                   |   |  |         |   |  |         |  
|                                                             |  |                 |            |                          |  |                                            |   |                    |        |                   |  |                   |   |  |         |   |  |         |  
|Balance as of December 31, 2003                              |  |                 | 10,660,874 |                          |  | 2,529                                      |   |                    | 21,408 |                   |  | -                 |   |  | (34,113 | ) |  | (10,176 | )
|                                                             |  |                 |            |                          |  |                                            |   |                    |        |                   |  |                   |   |  |         |   |  |         |  
|Changes during 2004:                                         |  |                 |            |                          |  |                                            |   |                    |        |                   |  |                   |   |  |         |   |  |         |  
|Net loss for the year                                        |  |                 | -          |                          |  | -                                          |   |                    | -      |                   |  | -                 |   |  | (1,635  | ) |  | (1,635  | )
|Issuance of Ordinary Shares                                  |  |                 | 67,072,669 |                          |  | 14,789                                     |   |                    | (2,920 | )                 |  | -                 |   |  | -       |   |  | 11,869  |  
|Exercise of stock options                                    |  |                 | 17,666,667 |                          |  | 3,929                                      |   |                    | (788   | )                 |  | -                 |   |  | -       |   |  | 3,141   |  
|Allocation of non-employees stock options                    |  |                 | -          |                          |  | -                                          |   |                    | 410    |                   |  | -                 |   |  | -       |   |  | 410     |  
|                                                             |  |                 |            |                          |  |                                            |   |                    |        |                   |  |                   |   |  |         |   |  |         |  
|Balance as of December 31, 2004                              |  |                 | 95,400,210 |                          |  | 21,247                                     |   |                    | 18,110 |                   |  | -                 |   |  | (35,748 | ) |  | 3,609   |  
|                                                             |  |                 |            |                          |  |                                            |   |                    |        |                   |  |                   |   |  |         |   |  |         |  

|    |                                                
|--- | -----------------------------------------------
|(1) | Represents
  an amount less than US$1 thousand.

F-43

---

---



|                                                         
|---------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                               
|                                                         
|Notes to the Financial Statements as of December 31, 2004
|                                                         

|           |                                                                                                                                                                                                                                                                                                                                                                                                                             |                         
|---------- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ------------------------
|Note 24   | Effect of
  Material Differences Between Israeli and U.S. GAAP (contd)                                                                                                                                                                                                                                                                                                                                                    
|           |                                                                                                                                                                                                                                                                                                                                                                                                                             |                         
|           | C.                                                                                                                                                                                                                                                                                                                                                                                                                          | Stock based compensation
|           |                                                                                                                                                                                                                                                                                                                                                                                                                             |                         
|           | The Company
  applies APB Opinion No. 25 and related interpretations in accounting for its
  stock compensation programs. Had the Company determined compensation cost
  based on the fair value at the grant date for its stock options under
  Statement 123, the Companys net loss attributable to common stockholders and
  diluted loss per share would have been reduced to the pro forma amounts
  indicated below.
|           |                                                                                                                                                                                                                                                                                                                                                                                                                             |                         

| |                                                                                                                                              |  |                         |        |               |  |               |   |  |        |  
| | -------------------------------------------------------------------------------------------------------------------------------------------- |  | ----------------------- | ------ | ------------- |  | ------------- | - |  | ------ | -
| |                                                                                                                                              |  | Year ended December 31, |       
| |                                                                                                                                              |  |                         |       
| |                                                                                                                                              |  | 2004                    |        | 2003          |  | 2002          |  
| |                                                                                                                                              |  |                         |        |               |  |               |  
| |                                                                                                                                              |  | US$ thousands           |        | US$ thousands |  | US$ thousands |  
| |                                                                                                                                              |  |                         |        |               |  |               |  
|
| | Net loss attributable to ordinary
  shareholders under U.S. GAAP:                                                                            |  |                         |        |               |  |               |   |  |        |  
| | As reported                                                                                                                                  |  |                         | (1,635 | )             |  | (6,546        | ) |  | (5,792 | )
| | Add:                                                                                                                                         |  |                         |        |               |  |               |   |  |        |  
| | Stock compensation expenses under APB 25                                                                                                     |  |                         | -      |               |  | -             |   |  | -      |  
| | Deduct:                                                                                                                                      |  |                         |        |               |  |               |   |  |        |  
| | Total stock-based employee compensation
  expense determined under the fair value based method for all amounts, net of
  related tax effects |  |                         | (1,048 | )             |  | (249          | ) |  | (1,046 | )
| |                                                                                                                                              |  |                         |        |               |  |               |   |  |        |  
| |                                                                                                                                              |  |                         |        |               |  |               |   |  |        |  
| | Pro-forma                                                                                                                                    |  |                         | (2,683 | )             |  | (6,795        | ) |  | (6,838 | )
| |                                                                                                                                              |  |                         |        |               |  |               |   |  |        |  
| |                                                                                                                                              |  |                         |        |               |  |               |   |  |        |  
| | Basic and diluted loss per share under U.S.
  GAAP in U.S. dollars:                                                                          |  |                         |        |               |  |               |   |  |        |  
| | As reported                                                                                                                                  |  |                         | (0.02  | )             |  | (0.61         | ) |  | (0.54  | )
| | Pro-forma                                                                                                                                    |  |                         | (0.03  | )             |  | (0.64         | ) |  | (0.64  | )

F-44

---

---



|                                                         
|---------------------------------------------------------
|                                                         
|B.V.R. Systems (1998) Ltd.                               
|                                                         
|Notes to the Financial Statements as of December 31, 2004
|                                                         

|           |                                                                                                                                                                                                                  |                                  
|---------- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ---------------------------------
|Note 24   | Effect of
  Material Differences Between Israeli and U.S. GAAP (contd)                                                                                                                                         
|           |                                                                                                                                                                                                                  |                                  
|           | C.                                                                                                                                                                                                               | Stock based compensation (contd)
|           |                                                                                                                                                                                                                  |                                  
|           | The fair
  value of each option grant is estimated on the date of grant using the Black
  & Scholes option-pricing model, with the following assumptions used for
  grants during the years 2002, 2003 and 2004:

|                                                                     |  |                             |      |                               |  |                               |  |          |      |          |  |      |  |  |      |  |  |      | 
|-------------------------------------------------------------------- |  | --------------------------- | ---- | ----------------------------- |  | ----------------------------- |  | -------- | ---- | -------- |  | ---- |  |  | ---- |  |  | ---- | 
|                                                                     |  | Options granted during 2004 |      | Options granted
  during 2003 |  | Options granted
  during 2002 | 
|                                                                     |  |                             |      |                               |  |                               | 
|                                                                     |  | March                       |      | November                      |  | May                           |  | November |      | February |  | May  | 
|                                                                     |  |                             |      |                               |  |                               |  |          |      |          |  |      | 
|                                                                     |  |                             |      |                               |  |                               |  |          |      |          |  |      |  |  |      |  |  |      | 
|Expected
  volatility (%)                                            |  |                             | 192  |                               |  | 181                           |  |          | 113  |          |  | 159  |  |  | 110  |  |  | 106  | 
|                                                                     |  |                             |      |                               |  |                               |  |          |      |          |  |      |  |  |      |  |  |      | 
|Risk-free
  interest rate (%)                                        |  |                             | 1    |                               |  | 2                             |  |          | 1.5  |          |  | 1    |  |  | 2    |  |  | 2    | 
|                                                                     |  |                             |      |                               |  |                               |  |          |      |          |  |      |  |  |      |  |  |      | 
|Weighted
  average expected life (years)                             |  |                             | 5.9  |                               |  | 6                             |  |          | 4.7  |          |  | 4.7  |  |  | 4.7  |  |  | 4.7  | 
|                                                                     |  |                             |      |                               |  |                               |  |          |      |          |  |      |  |  |      |  |  |      | 
|Average fair value of options granted to
  Companys employees (US$) |  |                             | 0.16 |                               |  | 0.49                          |  |          | 0.71 |          |  | 0.11 |  |  | 2.08 |  |  | 1.56 | 

F-45

---

---



|                                                         
|---------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                               
|                                                         
|Notes to the Financial Statements as of December 31, 2004
|                                                         

|           |                                                                                                                                                                                                 |                                                                                                                                                            
|---------- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | -----------------------------------------------------------------------------------------------------------------------------------------------------------
|Note 24   | Effect
  of Material Differences Between Israeli and U.S. GAAP (contd)                                                                                                                        
|           |                                                                                                                                                                                                
|           | D.                                                                                                                                                                                              | Data in respect of the option plans                                                                                                                        
|           |                                                                                                                                                                                                
|           | As of
  December 31, 2004, 16,026,136 options were outstanding. The options are each
  exercisable for one Ordinary Share at exercise price ranging between US$ 0.18
  and US$ 7.125 per share.
|           |                                                                                                                                                                                                 |                                                                                                                                                            
|           | 1.                                                                                                                                                                                              | A summary of
  status of the Companys stock option plans as of December 31, 2004, 2003 and
  2002, and changes during the years then ended, is as follows:

|                                                 |  |                      |            |                                             |  |                      |  |                                             |           |                      |  |                                             |  |  |           |   |  |      | 
|------------------------------------------------ |  | -------------------- | ---------- | ------------------------------------------- |  | -------------------- |  | ------------------------------------------- | --------- | -------------------- |  | ------------------------------------------- |  |  | --------- | - |  | ---- | 
|                                                 |  | As at December 31,   |           
|                                                 |  |                      |           
|                                                 |  | 2004                 |            | 2003                                        |  | 2002                 | 
|                                                 |  |                      |            |                                             |  |                      | 
|                                                 |  | Number of 
  options |            | Weighted
  average
  exercise price
  (US$) |  | Number of 
  options |  | Weighted
  average
  exercise price
  (US$) |           | Number of 
  options |  | Weighted
  average
  exercise price
  (US$) | 
|                                                 |  |                      |            |                                             |  |                      |  |                                             |           |                      |  |                                             | 
|                                                 |  |                      |            |                                             |  |                      |  |                                             |           |                      |  |                                             |  |  |           |   |  |      | 
|Options outstanding at the beginning of the
year |  |                      | 1,660,686  |                                             |  | 3.90                 |  |                                             | 1,791,086 |                      |  | 3.86                                        |  |  | 1,781,786 |   |  | 3.89 | 
|Granted during the year                          |  |                      | 14,833,000 |                                             |  | 0.19                 |  |                                             | 27,000    |                      |  | 0.29                                        |  |  | 77,700    |   |  | 2.54 | 
|Forfeited during the year                        |  |                      | (467,550   | )                                           |  | 1.93                 |  |                                             | (157,400  | )                    |  | 2.90                                        |  |  | (68,400   | ) |  | 3.05 | 
|                                                 |  |                      |            |                                             |  |                      |  |                                             |           |                      |  |                                             |  |  |           |   |  |      | 
|Outstanding at the end of the year               |  |                      | 16,026,136 |                                             |  | 0.52                 |  |                                             | 1,660,686 |                      |  | 3.90                                        |  |  | 1,791,086 |   |  | 3.86 | 
|                                                 |  |                      |            |                                             |  |                      |  |                                             |           |                      |  |                                             |  |  |           |   |  |      | 
|Options exercisable at year-end                  |  |                      | 3,529,136  |                                             |  | 1.70                 |  |                                             | 1,061,086 |                      |  | 3.99                                        |  |  | 1,069,386 |   |  | 4.50 | 
|                                                 |  |                      |            |                                             |  |                      |  |                                             |           |                      |  |                                             |  |  |           |   |  |      | 

F-46

---

---



|                                                         
|---------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                               
|                                                         
|Notes to the Financial Statements as of December 31, 2004
|                                                         

|           |                                                                         |                                                                                               
|---------- | ----------------------------------------------------------------------- | ----------------------------------------------------------------------------------------------
|Note 24   | Effect of Material Differences
  Between Israeli and U.S. GAAP (contd)
|           |                                                                         |                                                                                               
|           | 2.                                                                      | The
  following table summarizes information relating to stock options at
  December 31, 2004:

| |                        |  |  |                               |            |                               |  |           | 
| | ---------------------- |  |  | ----------------------------- | ---------- | ----------------------------- |  | --------- | 
| |                        |  |  | Options
  outstanding         |            | Options
  exercisable         | 
| |                        |  |  |                               |            |                               | 
| | Exercise price
  (US$) |  |  | Number at
  December 31, 2004 |            | Number at
  December 31, 2004 | 
| |                        |  |  |                               |            |                               | 
| |                        |  |  |                               |            |                               |  |           | 
| | 7.125                  |  |  |                               | 162,636    |                               |  | 162,636   | 
| | 4.25                   |  |  |                               | 40,000     |                               |  | 40,000    | 
| | 4.125                  |  |  |                               | 683,000    |                               |  | 683,000   | 
| | 4                      |  |  |                               | 3,000      |                               |  | 3,000     | 
| | 2.69                   |  |  |                               | 35,100     |                               |  | 35,100    | 
| | 2.6                    |  |  |                               | 39,000     |                               |  | 39,000    | 
| | 2.5                    |  |  |                               | 18,000     |                               |  | 18,000    | 
| | 2.36                   |  |  |                               | 449,200    |                               |  | 449,200   | 
| | 2.25                   |  |  |                               | 16,000     |                               |  | 16,000    | 
| | 2.06                   |  |  |                               | 16,200     |                               |  | 16,200    | 
| | 2.03                   |  |  |                               | 20,000     |                               |  | 20,000    | 
| | 1.188                  |  |  |                               | 45,000     |                               |  | 45,000    | 
| | 0.9                    |  |  |                               | 6,000      |                               |  | 2,000     | 
| | 0.65                   |  |  |                               | 80,000     |                               |  | -         | 
| | 0.55                   |  |  |                               | 150,000    |                               |  | -         | 
| | 0.18                   |  |  |                               | 14,263,000 |                               |  | 2,000,000 | 
| |                        |  |  |                               |            |                               |  |           | 
| |                        |  |  |                               |            |                               |  |           | 
| |                        |  |  |                               | 16,026,136 |                               |  | 3,529,136 | 
| |                        |  |  |                               |            |                               |  |           | 

| | 3. | Outstanding
  options as at December 31, 2004 may be exercised as follows:
| | -- | --------------------------------------------------------------------------

| |                             |  |                     |            |                                             |  |      | 
| | --------------------------- |  | ------------------- | ---------- | ------------------------------------------- |  | ---- | 
| |                             |  | Number
  of options |            | Weighted
  average
  exercise
  price (US$) | 
| |                             |  |                     |            |                                             | 
| |                             |  |                     |            |                                             |  |      | 
| | Immediately                 |  |                     | 3,529,136  |                                             |  | 1.70 | 
| | First year
  or thereafter  |  |                     | 3,511,000  |                                             |  | 0.19 | 
| | Second year
  or thereafter |  |                     | 8,986,000  |                                             |  | 0.19 | 
| |                             |  |                     |            |                                             |  |      | 
| |                             |  |                     |            |                                             |  |      | 
| |                             |  |                     | 16,026,136 |                                             |  |      | 
| |                             |  |                     |            |                                             |  |      | 

F-47

---

---



|                                                           
|-----------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                                 
|                                                           
|Notes to the Financial Statements as of
  December 31, 2004
|                                                           

|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       |                                                          
|---------- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ---------------------------------------------------------
|Note 24   | Effect of
  Material Differences Between Israeli and U.S. GAAP (contd)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       |                                                          
|           | E.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    | Impact of relevant recently issued
  accounting standards
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       |                                                          
|           | In December 2004, the FASB issued SFAS 123R, Share-Based Payment: An
  amendment of FASB Statements No. 123 and 95, which
  requires companies to recognize in the income statement the grant-date fair
  value of stock options and other equity-based compensation issued to
  employees. The provisions of the interpretation are effective for financial
  statements issued for periods that begin after June 15, 2005, which will be
  our first quarter beginning January 1, 2006.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       |                                                          
|           | Upon
  adoption, the Company has two application methods to choose from: the
  modified-prospective transition approach or the modified-retrospective
  transition approach. Under the modified-prospective transition method the
  Company would be required to recognize compensation cost for share-based
  awards to employees based on their grant-date fair value from the beginning
  of the fiscal period in which the recognition provisions are first applied as
  well as compensation cost for awards that were granted prior to, but not
  vested as of the date of adoption. Prior periods remain unchanged and pro
  forma disclosures previously required by SFAS No. 123 continue to be
  required. Awards that are granted, modified or settled after the date of
  adoption will be measured and accounted for in accordance with SFAS 123R. Under
  the modified-retrospective transition method, the Company would restate prior
  periods by recognizing compensation cost in the amounts previously reported
  in the pro forma disclosure under SFAS No. 123. Under this method, the
  Company is permitted to apply this presentation to all periods presented or
  to the start of the fiscal year in which SFAS No. 123R is adopted. The
  Company would follow the same guidelines as in the modified-prospective
  transition method for awards granted subsequent to adoption and those that
  were granted and not yet vested. The Company has not yet determined which
  methodology it will adopt, but believes that the impact the adoption of SFAS
  No. 123R will have on its financial position or results of operations will
  approximate the magnitude of the stock-based employee compensation cost
  disclosed in Note 24C.
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       |                                                          
|           | In March 2004, the Emerging Issues Task Force (EITF) reached a
  consensus on Issue 
  No. 03-01, The Meaning of
  Other-Than-Temporary Impairment and its Application to Certain Investments (EITF
  03-1).   EITF
  03-1 provides guidance on other-than-temporary impairment models for
  marketable debt and equity securities accounted for under SFAS No. 115, Accounting for Certain Investments in Debt and
  Equity Securities (SFAS No. 115), and non-marketable equity
  securities accounted for under the cost method.  The EITF developed a basic three-step model to evaluate whether
  an investment is other-than-temporarily impaired.  On September 30, 2004, the FASB issued FSP 03-1-1, Effective Date
  of Paragraphs 10-20 of EITF Issue 03-1, The Meaning of Other Temporary
  Impairment and its Application to Certain Investments, delaying the
  effective date for the recognition and measurement guidance of EITF 03-1, as
  contained in paragraphs 10-20, until certain implementation issued are
  addressed and a final FSP providing implementation guidance is issued. The
  disclosure requirements of the consensus remain in effect.  The Company does not expect the adoption of
  EUTF 03-1s three-step model to have a material effect on the Company results
  of operations and financial condition.                                                                                                                                                                                                                                                                                                                                                                                                      

F-48

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|                                                           
|-----------------------------------------------------------
|B.V.R. Systems (1998) Ltd.                                 
|                                                           
|Notes to the Financial Statements as of
  December 31, 2004
|                                                           

|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       |                                                                   
|---------- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ------------------------------------------------------------------
|Note 24   | Effect of
  Material Differences Between Israeli and U.S. GAAP (contd)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       |                                                                   
|           | E.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    | Impact of relevant recently issued
  accounting standards (contd)
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       |                                                                   
|           | In December 2004, the FASB issued SFAS No. 153, Exchanges of
  Nonmonetary Assets - an amendment to APB No. 20.   This Statement amends Opinion NO. 29 to
  eliminate the exception for nonmonetary exchanges of similar productive
  assets and replaces it with a general exception for exchanges of nonmonetary
  assets that do not have commercial substance.  A nonmonetary exchange has commercial substance if the future
  cash flows of the entity expected to change significantly as a result of the
  exchange.  Adoption of this statement
  is not expected to have material impact on the financial statements of the
  Company.                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|           |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       |                                                                   
|           | In November 2004,
  the Financial Accounting Standards Board (FASB) issued SFAS No. 151,
  Inventory Costs - an amendment to ARB No. 43.
  This statement provides guidance to clarify the accounting for
  abnormal amounts of idle facility expense, freight handling costs, and wasted
  material (spoilage), among other production costs.  Provisions of ARB No. 43 stated that under some circumstances,
  items such as idle facility expense, excessive spoilage and other costs may
  be so abnormal as to require treatment as current period charges.  This statement requires that those items
  be recognized as current period charges regardless of whether they meet the
  criterion of so abnormal.  In
  addition, SFAS 151 requires that allocation of fixed production overheads to
  the costs of conversion be based on the normal capacity of the production
  overheads to the costs of conversion be based on the normal capacity of the
  production facilities.  Adoption of
  the Statement is not expected to have a material impact on the financial
  statements of the Company.

F-49

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