---

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSIONWASHINGTON, D.C. 20549

FORM 20-F

|o                                            | REGISTRATION STATEMENT PURSUANT TO
  SECTION 12(b) OR 12(g)
  OF THE SECURITIES EXCHANGE ACT OF 1934
|-------------------------------------------- | ----------------------------------------------------------------------------------------------------
|                                            
|OR                                          
|                                            
|x                                            | ANNUAL REPORT PURSUANT TO SECTION
  13 OR 15(d) OF THE
  SECURITIES EXCHANGE ACT OF 1934            
|                                            
|For
  the fiscal year endedDecember 31, 2003
|                                            
|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 0-49877

|On Track Innovations Ltd.                               
|--------------------------------------------------------
|                                                        
|(Exact Name of
  Registrant as Specified in Its Charter)
|                                                        
|ISRAEL                                                  
|                                                        
|(Jurisdiction of
  Incorporation or Organization)       
|                                                        
|Z.H.R Industrial Zone, Rosh-Pina 12000, 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 0.1 nominal value
|----------------------------------------
|                                        
|(Title
  of Class)                      

Securities for which there is a
reporting obligation pursuant to Section 15(d) of the Act:

|None              
|------------------
|                  
|(Title
  of Class)

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

4,778,715
Ordinary Shares, NIS 0.1 nominal value.

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.

|x | Yes | o | No
|- | --- | - | --

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

|Item 17 | o | Item 18 | x
|------- | - | ------- | -

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TABLE
OF CONTENTS

|                                                                |                                                                                               | Page
|--------------------------------------------------------------- | --------------------------------------------------------------------------------------------- | ----
|                                                                |                                                                                               |     
|                                                                |                                                                                               |     
|ITEM 1. IDENTITY OF DIRECTORS,
  SENIOR MANAGEMENT AND ADVISERS | 1                                                                                             |     
|                                                                |                                                                                               |     
|ITEM 2. OFFER STATISTICS AND
  EXPECTED TIMETABLE               | 1                                                                                             |     
|                                                                |                                                                                               |     
|ITEM 3. KEY INFORMATION                                         | 1                                                                                             |     
|                                                                |                                                                                               |     
|                                                                | A. SELECTED FINANCIAL DATA                                                                    | 1   
|                                                                |                                                                                               |     
|                                                                | B. CAPITALIZATION AND INDEBTEDNESS                                                            | 2   
|                                                                |                                                                                               |     
|                                                                | C. REASONS FOR THE OFFER AND USE OF
  PROCEEDS                                                | 2   
|                                                                |                                                                                               |     
|                                                                | D. RISK FACTORS                                                                               | 2   
|                                                                |                                                                                               |     
|ITEM 4. INFORMATION ON THE COMPANY                              | 13                                                                                            |     
|                                                                |                                                                                               |     
|                                                                | A. HISTORY AND DEVELOPMENT OF THE
  COMPANY                                                   | 13  
|                                                                |                                                                                               |     
|                                                                | B. BUSINESS OVERVIEW                                                                          | 13  
|                                                                |                                                                                               |     
|                                                                | C. ORGANIZATIONAL STRUCTURE                                                                   | 29  
|                                                                |                                                                                               |     
|                                                                | D. PROPERTY, PLANT AND EQUIPMENT                                                              | 31  
|                                                                |                                                                                               |     
|ITEM 5. OPERATING AND FINANCIAL
  REVIEW AND PROSPECTS          | 32                                                                                            |     
|                                                                |                                                                                               |     
|                                                                | A. OPERATING RESULTS                                                                          | 32  
|                                                                |                                                                                               |     
|                                                                | B. LIQUIDITY AND CAPITAL RESOURCES                                                            | 37  
|                                                                |                                                                                               |     
|                                                                | C. RESEARCH AND DEVELOPMENT, PATENTS AND LICENSES, ETC                                        | 39  
|                                                                |                                                                                               |     
|                                                                | D. TREND INFORMATION                                                                          | 39  
|                                                                |                                                                                               |     
|                                                                | E. OFF BALANCE SHEET ARRANGEMENTS                                                             | 39  
|                                                                |                                                                                               |     
|                                                                | F. TABULAR DISCLOSURE OF CONTRACTUAL
  OBLIGATIONS                                            | 39  
|                                                                |                                                                                               |     
|ITEM 6. DIRECTORS, SENIOR MANAGEMENT
  AND EMPLOYEES            | 39                                                                                            |     
|                                                                |                                                                                               |     
|                                                                | A. DIRECTORS AND SENIOR MANAGEMENT                                                            | 39  
|                                                                |                                                                                               |     
|                                                                | B. COMPENSATION                                                                               | 41  
|                                                                |                                                                                               |     
|                                                                | C. BOARD PRACTICES                                                                            | 43  
|                                                                |                                                                                               |     
|                                                                | D. EMPLOYEES                                                                                  | 47  
|                                                                |                                                                                               |     
|                                                                | E. SHARE OWNERSHIP                                                                            | 48  
|                                                                |                                                                                               |     
|ITEM 7. MAJOR SHAREHOLDERS AND
  RELATED PARTY TRANSACTIONS     | 50                                                                                            |     
|                                                                |                                                                                               |     
|                                                                | A. MAJOR SHAREHOLDERS                                                                         | 50  
|                                                                |                                                                                               |     
|                                                                | B. RELATED PARTY TRANSACTIONS                                                                 | 51  
|                                                                |                                                                                               |     
|                                                                | C. INTERESTS OF EXPERTS AND COUNSEL                                                           | 52  
|                                                                |                                                                                               |     
|ITEM 8. FINANCIAL INFORMATION                                   | 52                                                                                            |     
|                                                                |                                                                                               |     
|                                                                | A. CONSOLIDATED FINANCIAL STATEMENTS
  AND OTHER FINANCIAL 
                      INFORMATION | 52  
|                                                                |                                                                                               |     
|                                                                | B. SIGNIFICANT CHANGES                                                                        | 53  
|                                                                |                                                                                               |     
|ITEM 9. THE OFFER AND LISTING                                   | 53                                                                                            |     
|                                                                |                                                                                               |     
|                                                                | A. OFFER AND LISTING DETAILS                                                                  | 53  
|                                                                |                                                                                               |     
|                                                                | B. PLAN OF DISTRIBUTION                                                                       | 54  
|                                                                |                                                                                               |     
|                                                                | C. MARKETS                                                                                    | 54  

i

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TABLE OF
CONTENTS
(continued)

|                                                                                         |                                             | Page
|---------------------------------------------------------------------------------------- | ------------------------------------------- | ----
|                                                                                         |                                             |     
|                                                                                         |                                             |     
|                                                                                         | D. SELLING SHAREHOLDERS                     | 54  
|                                                                                         |                                             |     
|                                                                                         | E. DILUTION                                 | 54  
|                                                                                         |                                             |     
|                                                                                         | F. EXPENSES OF THE ISSUE                    | 55  
|                                                                                         |                                             |     
|ITEM 10. ADDITIONAL INFORMATION                                                          | 55                                          |     
|                                                                                         |                                             |     
|                                                                                         | A. SHARE CAPITAL                            | 55  
|                                                                                         |                                             |     
|                                                                                         | B. MEMORANDUM AND ARTICLES OF
  ASSOCIATION | 60  
|                                                                                         |                                             |     
|                                                                                         | C. MATERIAL CONTRACTS                       | 60  
|                                                                                         |                                             |     
|                                                                                         | D. EXCHANGE CONTROLS                        | 61  
|                                                                                         |                                             |     
|                                                                                         | E. TAXATION                                 | 62  
|                                                                                         |                                             |     
|                                                                                         | F. DIVIDENDS AND PAGING AGENTS              | 62  
|                                                                                         |                                             |     
|                                                                                         | G. STATEMENT BY EXPERTS                     | 62  
|                                                                                         |                                             |     
|                                                                                         | H. DOCUMENTS ON DISPLAY                     | 62  
|                                                                                         |                                             |     
|                                                                                         | I. SUBSIDIARY INFORMATION                   | 62  
|                                                                                         |                                             |     
|ITEM 11. QUANTITATIVE AND
  QUALITATIVE DISCLOSURES ABOUT MARKET RISK                    | 62                                          |     
|                                                                                         |                                             |     
|ITEM 12. DESCRIPTION OF SECURITIES
  OTHER THAN EQUITY SECURITIES                        | 62                                          |     
|                                                                                         |                                             |     
|ITEM 13. DEFAULTS, DIVIDEND
  ARREARAGES AND DELINQUENCIES                               | 71                                          |     
|                                                                                         |                                             |     
|ITEM 14.  MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS AND USE
  OF PROCEEDS | 71                                          |     
|                                                                                         |                                             |     
|ITEM 15. CONTROLS AND PROCEDURES                                                         | 71                                          |     
|                                                                                         |                                             |     
|ITEM 16A. AUDIT COMMITTEE FINANCIAL
  EXPERT                                             | 71                                          |     
|                                                                                         |                                             |     
|ITEM 16B. CODE OF ETHICS                                                                 | 71                                          |     
|                                                                                         |                                             |     
|ITEM 16C. PRINCIPAL ACCOUNTANT FEES
  AND SERVICES                                       | 71                                          |     
|                                                                                         |                                             |     
|ITEM 16D. RESERVED                                                                       | 72                                          |     
|                                                                                         |                                             |     
|ITEM 16E. RESERVED                                                                       | 72                                          |     
|                                                                                         |                                             |     
|ITEM 17. FINANCIAL STATEMENTS                                                            | 73                                          |     
|                                                                                         |                                             |     
|ITEM 18. FINANCIAL STATEMENTS                                                            | 73                                          |     
|                                                                                         |                                             |     
|ITEM 19. EXHIBITS                                                                        | 73                                          |     

ii

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PART I

ITEM
1.            IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS

Not
applicable.

ITEM
2.            OFFER STATISTICS AND EXPECTED TIMETABLE

Not
applicable.

ITEM
3.          KEY
INFORMATION

A.      SELECTED FINANCIAL DATA

The
following selected consolidated statements of operations data for the years
ended December 31, 2001, 2002 and 2003, and the selected consolidated balance
sheet data as of December 31, 2002 and 2003, have been derived from the audited
consolidated financial statements of On Track Innovations Ltd. (together with
its subsidiaries, the Company or OTI) set forth elsewhere in this annual
report.  These financial statements have
been prepared in accordance with generally accepted accounting principles in
the United States (U.S. GAAP). The selected consolidated statements of
operations data for the years ended December 31, 1999 and 2000 and the selected
consolidated balance sheet data as of December 31, 1999, 2000 and 2001 have
been derived from our audited consolidated financial statements not included in
this annual report, which have also been prepared in accordance with U.S.
GAAP.  The selected consolidated
financial statements set forth below should be read in conjunction with and are
qualified by reference to our consolidated financial statements and the related
notes as well as Item 5.  Operating and Financial Review and
Prospects included elsewhere in this annual report.

Effective
as of June 17, 2002, we consummated a ten to one reverse split of our ordinary
shares, such that each ten ordinary shares of NIS 0.01 par value became one
ordinary share of NIS 0.1 par value. 
All shares, per share, warrants and options amounts in the consolidated
financial statements have been adjusted to give retroactive effect to this
reverse share split for all periods presented.

|                                                                             |  | Year
  ended December 31                        |      
|---------------------------------------------------------------------------- |  | ----------------------------------------------- | -----
|                                                                             |  |                                                 |      
|                                                                             |  | 1999                                            |      
|                                                                             |  |                                                 |      
|                                                                             |  | (In thousands, except share and per share data) |      
|REVENUES                                                                     |  |                                                 |      
|Products                                                                     |  | $                                               | 3,892
|Non-recurring
  engineering                                                  |  |                                                 | 405  
|Licensing
  and transaction fees                                             |  |                                                 | 86   
|Customer
  service and technical
               support                      |  |                                                 | -    
|                                                                             |  |                                                 |      
|                                                                             |  |                                                 |      
|Total
  revenues                                                             |  |                                                 | 4,383
|                                                                             |  |                                                 |      
|                                                                             |  |                                                 |      
|COST OF REVENUES                                                             |  |                                                 |      
|Products                                                                     |  |                                                 | 2,122
|Non-recurring
  engineering                                                  |  |                                                 | 73   
|Customer
  service and technical
               support                      |  |                                                 | -    
|                                                                             |  |                                                 |      
|                                                                             |  |                                                 |      
|Total
  cost of
                    revenues                                 |  |                                                 | 2,195
|                                                                             |  |                                                 |      
|                                                                             |  |                                                 |      
|Gross
  profit                                                               |  |                                                 | 2,188
|                                                                             |  |                                                 |      
|                                                                             |  |                                                 |      
|OPERATING EXPENSES                                                           |  |                                                 |      
|Research
  and development                                                   |  |                                                 | 2,101
|Less
   participation by the
               Office
  of the Chief Scientist |  |                                                 | 645  
|                                                                             |  |                                                 |      
|                                                                             |  |                                                 |      
|Research
  and development, net                                              |  |                                                 | 1,456
|Selling
  and marketing                                                      |  |                                                 | 2,013
|General
  and administrative                                                 |  |                                                 | 1,839
|Amortization
  of goodwill and
               intangible
  assets            |  |                                                 | -    
|Other
  expenses                                                             |  |                                                 | -    
|                                                                             |  |                                                 |      

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|                                                                                                        |  | Year
  ended December 31                        |          
|------------------------------------------------------------------------------------------------------- |  | ----------------------------------------------- | ---------
|                                                                                                        |  |                                                 |          
|                                                                                                        |  | 1999                                            |          
|                                                                                                        |  |                                                 |          
|                                                                                                        |  | (In thousands, except share and per share data) |          
|Total
  operating
                    expenses                                                          |  |                                                 | 5,308    
|                                                                                                        |  |                                                 |          
|                                                                                                        |  |                                                 |          
|Operating
  loss                                                                                        |  |                                                 | (3,120   
|                                                                                                        |  |                                                 |          
|Amortization of beneficial
  conversion
     feature on convertible loan                                |  |                                                 | (250     
|Financial income
  (expenses), net                                                                      |  |                                                 | 318      
|Other expenses, net                                                                                     |  |                                                 | -        
|                                                                                                        |  |                                                 |          
|Loss
  before income                  taxes                                                             |  |                                                 | (3,052   
|Tax benefit (expenses)                                                                                  |  |                                                 | (82      
|                                                                                                        |  |                                                 |          
|                                                                                                        |  |                                                 | (3,134   
|                                                                                                        |  |                                                 |          
|Minority interests                                                                                      |  |                                                 | 81       
|Equity in losses of an
  affiliated company                                                             |  |                                                 | (2       
|                                                                                                        |  |                                                 |          
|Net
  loss                                                                                              |  | $                                               | (3,055   
|                                                                                                        |  |                                                 |          
|                                                                                                        |  |                                                 |          
|Basic and diluted net loss
  per share                                                                  |  | $                                               | (2.54    
|                                                                                                        |  |                                                 |          
|                                                                                                        |  |                                                 |          
|Weighted average number of
  shares used in
     computing net loss per shares - basic and
     diluted |  |                                                 | 1,204,651
|                                                                                                        |  |                                                 |          
|                                                                                                        |  | As of
  December 31                             |          
|                                                                                                        |  |                                                 |          
|                                                                                                        |  | 1999                                            |          
|                                                                                                        |  |                                                 |          
|Balance
  Sheet Data:                                                                                   |  |                                                 |          
|Cash and cash equivalents                                                                               |  | $                                               | 16,315   
|Total current assets                                                                                    |  |                                                 | 33,423   
|Total assets                                                                                            |  |                                                 | 35,681   
|Total liabilities                                                                                       |  |                                                 | 8,315    
|Long term loans, net of
  current maturities                                                            |  |                                                 | 1,321    
|Total shareholders equity                                                                              |  |                                                 | 27,366   

B.      CAPITALIZATION AND INDEBTEDNESS

Not
applicable.

C.      REASONS FOR THE OFFER AND USE OF PROCEEDS

Not
applicable.

D.      RISK FACTORS

This
annual report contains forward-looking statements that involve risks and
uncertainties.  The statements contained
in this annual report that are not purely historical are forward-looking
statements within the meaning of Section 21E of the Securities Exchange Act of
1934, as amended (the Exchange Act), including, without limitation,
statements regarding our expectations, beliefs, intentions, goals, plans,
investments or strategies regarding the future and any assumptions underlying
any of the foregoing.  Forward-looking
statements include statements in (i) Item 4.  Information on the
Company regarding our belief as to increased acceptance of smart-card
technology, expansion of the use of our technology, the impact of our relationship
with technology partners and business partners as well as to our future revenue
and the development of future products and (ii) Item 5.  Operating
and Financial Review and Prospects regarding, among other things, future
sources of revenue, ongoing relationships with current and future end-user
customers and resellers, future costs and expenses, and adequacy of capital
resources.  Forward-looking statements
involve risks and uncertainties, as well as assumptions that, if they never
materialize or prove incorrect, could cause our actual results to differ
materially from such results discussed in these statements.  Many of these risks and uncertainties are
described in the risk factors set forth below in this section and elsewhere in
this annual report.  All forward-looking
statements included in this document are based on information available to us
on the date hereof, and we assume no obligation to update any such
forward-looking statements.

2

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RISKS
RELATED TO OUR BUSINESS

WE HAVE A HISTORY OF
LOSSES.  ALTHOUGH WE ACHIEVED
PROFITABILITY IN THE FOURTH QUARTER OF 2003, WE MAY NOT CONTINUE TO DO SO IN
THE FUTURE.

We
have incurred losses in each year since we commenced operations in 1990.  We reported net losses of $3.1 million in
1999, $8.3 million in 2000, $11.7 million in 2001, $6.2 million in 2002 and
$3.6 million in 2003.  Although we
reported $102,000 of net income for the fourth quarter of 2003, we expect to
incur full year losses at least through 2005 as we invest in the expansion of
our global marketing network, reduce our product prices in return for
transaction fees based on the volume of transactions effected in systems that
contain our products, enhance our research and development capabilities and
expand our internal manufacturing capabilities.

IF THE MARKET FOR SMART
CARDS IN GENERAL, AND FOR CONTACTLESS MICROPROCESSOR-BASED SMART CARDS IN
PARTICULAR, DOES NOT GROW, SALES OF OUR PRODUCTS MAY NOT GROW AND MAY EVEN
DECLINE.

The
success of our products depends on commercial enterprises, governmental
authorities and other potential card issuers adopting contactless
microprocessor-based smart card technologies. 
Other card technologies, such as magnetic strips or bar codes, are
widely used and could be viewed by potential customers as more cost effective
alternatives to our products. 
Additionally, potential customers in developed countries such as the
United States may already have installed systems that are based on technologies
different from ours and may therefore be less willing to incur the capital
expenditures required to install or upgrade to a contactless
microprocessor-based smart card system. 
As a result, we cannot assure you that there will be significant market
opportunities for contactless microprocessor-based smart card products.  If demand for contactless
microprocessor-based smart card products such as ours does not develop or
develops more slowly than we anticipate, we may have fewer opportunities for
growth than we expect.

IF WE FAIL TO DEVELOP NEW
PRODUCTS OR ADAPT OUR EXISTING PRODUCTS FOR USE IN NEW MARKETS, OUR REVENUE
GROWTH MAY BE IMPEDED AND WE MAY INCUR SIGNIFICANT LOSSES.

To
date, we have sold products incorporating our technology within a limited
number of markets.  We are currently
developing and marketing products such as medical cards for use in hospitals
and identity cards for use by governmental authorities.  We have yet to recognize revenues from sales
of these products.  We are devoting
significant resources to developing and marketing these and other products and
adapting our existing products for use in new markets.  If we fail to develop new products or adapt
our existing products for new markets, we may not recoup the expenses incurred
in our efforts to do so, our revenue growth may be impeded and we may incur
significant losses.

WE HAVE HISTORICALLY
DERIVED A SIGNIFICANT PORTION OF OUR REVENUES FROM SALES TO SYSTEMS INTEGRATORS
WHO ARE NOT THE END-USERS OF OUR PRODUCTS. WE ARE TO A CERTAIN EXTENT DEPENDENT
ON THE ABILITY OF THESE INTEGRATORS TO MAINTAIN THEIR EXISTING BUSINESS AND
SECURE NEW BUSINESS.

In
2001, 2002 and 2003, 18%, 22% and 28%, respectively, of our revenues were
derived from sales to systems integrators, who incorporate our products into
systems which they supply and install for use in a specific project.  To the extent our revenues depend on the
ability of systems integrators to successfully market, sell, install and
provide technical support for systems in which our products are integrated or
to sell our products on a stand-alone basis, our revenues may decline if the
efforts of these systems integrators fail.  Further, the faulty or negligent implementation and installation
of our products by systems integrators may harm our reputation and dilute our
brand name.  Because we are one step
removed from the end-users of our products, it may be more difficult for us to
rectify damage to our reputation caused by systems integrators who have direct
contact with end-users.  In addition,
termination of agreements with systems integrators or revocation of exclusive
distribution rights within a certain area can be difficult.  If we are unable to maintain our current
relationships with systems integrators or develop relationships with new
systems integrators, we may not be able to sell our products and our results of
operations could be impaired.

Unless
we continue to expand our direct sales, our future success will depend upon the
timing and size of future purchases by systems integrators and the success of the
projects and services for which they use our products.

3

---

---

OUR REVENUE GROWTH MAY BE
IMPAIRED IF WE ARE UNABLE TO MAINTAIN OUR CURRENT, AND ESTABLISH NEW, STRATEGIC
RELATIONSHIPS.

The
markets for our products are usually highly specialized and require us to enter
into strategic relationships in order to facilitate or accelerate our
penetration into new markets.  We
consider a relationship to be strategic when we integrate our technology into
some of the product offerings of a manufacturer or systems integrator that has
a significant position in a specified market, and then we cooperate in
marketing the resulting product.  The
termination of any of our strategic relationships or our failure to develop
additional relationships in the future may limit our ability to expand the
markets in which our products are deployed or to sell particular products.

SOME OF OUR AGREEMENTS
MAY IN THE FUTURE RESTRICT OUR ABILITY TO TAKE ACTIONS THAT WE THEN BELIEVE TO
BE DESIRABLE.

In
some of our agreements with suppliers, distributors and joint venture partners,
we have agreed to restrict ourselves in some areas of business for different
time periods ranging from several months to several years.  For example, we have granted our e-Smart
joint venture with Cheung Kong exclusive rights to distribute our products in
Greater China and we granted our joint venture partner veto rights over key
business decisions relating to the distribution of our products in that region.  In addition, in the event that our products
are sold in Greater China by third parties other than through e-Smart, we have
agreed to pay to e-Smart 7.5% of the net revenues we receive from such
sales.  Our agreement with Samsung
concerning the development and manufacture of a particular type of
microprocessor chip that we refer to as a monochip requires us not to sell
that microprocessor chip to the existing customers of Samsung.  In addition, in some markets we sell our
products through distributors who, in general, have exclusive distribution
rights in that market if sales quota are met.

WE FACE INTENSE
COMPETITION. IF WE ARE UNABLE TO COMPETE SUCCESSFULLY, OUR BUSINESS PROSPECTS
WILL BE IMPAIRED.

We
face intense competition from developers of contact and contactless
microprocessor-based technologies and products, developers of contactless
products that use other types of technologies that are not
microprocessor-based, and non-smart card technologies.  We compete on the basis of a range of
competitive factors including price, compatibility with the products of other
manufacturers, and the ability to support new industry standards and introduce
new reliable technologies.  Many of our
competitors, including Philips Semiconductors, a division of Philips Electronics
N.V., and Infineon Technologies AG, have greater market recognition, larger
customer bases, and substantially greater financial, technical, marketing,
distribution, and other resources than we possess.  As a result, they may be able to introduce new products, respond
to customer requirements and adapt to evolving industry standards more quickly
than we can. In addition, we may not be able to differentiate our products
sufficiently from those of our competitors.

From
time to time, we or one or more of our present or future competitors may
announce new or enhanced products or technologies that have the potential to
replace or shorten the life cycles of our existing products.  The announcement of new or enhanced products
may cause customers to delay or alter their purchasing decisions in
anticipation of such products, and new products developed by our competitors
may render our products obsolete or achieve greater market acceptance than our
products.

If
we cannot compete successfully with our existing and future competitors, we
could experience lower sales, price reductions, loss of revenues, reduced gross
margins and reduced market share.

IF THERE IS A SUSTAINED
INCREASE IN DEMAND FOR MICROPROCESSORS, AVAILABILITY MIGHT BE LIMITED AND
PRICES MIGHT INCREASE.

Our
products require microprocessors.  The
microprocessor industry periodically experiences increased demand and limited
availability due to production capacity constraints.  Increased demand for, or limited availability of, microprocessors
could substantially increase the cost of producing our products.  Because some of our contracts have fixed
prices, we may not be able to pass on any increases in costs to these
customers, and consequently our profit margin could be reduced.

In
addition, as a result of a shortage, we may be compelled to delay shipments of
our products, or devote additional resources to maintaining higher levels of
microprocessor inventory.  Consequently,
we may experience substantial period-to-period fluctuations in our cost of
revenues and, therefore, in our future results of operations.

4

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---

OUR PRODUCTS HAVE LONG
DEVELOPMENT CYCLES AND WE MAY EXPEND SIGNIFICANT RESOURCES IN RELATION TO A
SPECIFIC PROJECT WITHOUT REALIZING ANY REVENUES.

The
development cycle for our products varies from project to project.  Typically, the projects in which we are
involved are complex and require that we customize our products to our customers
needs and specifications in return for payment of a fixed amount.  We then conduct evaluation, testing,
implementation and acceptance procedures of the customized products with the
customer.  Only after successful
completion of these procedures will customers place orders for our products in
commercial quantities.  In addition, our
contracts do not typically include minimum purchase requirements.  We, therefore, cannot assure you that
contracts into which we enter will result in commercial sales.  Our average development cycle is typically
between 12 and 18 months from initial contact with a potential customer until
we deliver commercial quantities to the customer and recognize significant
revenues.  As a result, we may expend
financial, management and other resources to develop customer relationships
before we recognize any revenues.

FLUCTUATIONS IN OUR
QUARTERLY FINANCIAL PERFORMANCE MAY CREATE VOLATILITY IN THE MARKET PRICE OF
OUR SHARES AND MAY MAKE IT DIFFICULT TO PREDICT OUR FUTURE PERFORMANCE.

Our
quarterly revenues and operating results have varied in the past and are likely
to do so in the future.  These
fluctuations may be driven by various factors which are beyond our control, are
difficult to predict and may not meet the expectations of analysts and investors.  These factors include:

| |  | The size and timing of orders placed by our
  customers, particularly in government projects.  Government projects typically involve a protracted competitive
  procurement process and in some circumstances litigation following the award
  of a contract.  As a result, it is
  difficult to predict the timing and size of orders under such contracts.  For example, we started to prepare our
  offer for the Israeli national electronic parking system project in 1992, we
  were awarded the contract in May 1998 and deployment began in January
  2000.  We started recognizing revenues
  in the second half of 2000.
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
| |  | The fact that our rental and financing expenses are
  fixed and we may not be able to reduce them in the event of a reduction in
  revenues in a particular quarter.  In
  addition, our payroll expenses are relatively fixed and we would not expect
  to reduce our workforce due to a reduction in revenues in any particular
  quarter.                                                                                                                                                                                                                                                                                      
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
| |  | The tendency of our clients to place orders for
  products toward the last quarter of their financial year.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       

Because
of these factors, our revenues and operating results in any quarter may not be
indicative of our future performance, and it may be difficult for you to
evaluate our prospects.

DELAYS OR DISCONTINUANCE
OF THE SUPPLY OF COMPONENTS MAY HAMPER OUR ABILITY TO PRODUCE OUR PRODUCTS ON A
TIMELY BASIS AND CAUSE SHORT-TERM ADVERSE EFFECTS.

The
components we use in our products, including microprocessors and cards, are
supplied by third party suppliers and manufacturers.  Except for Samsung, currently the sole supplier of the chip that
integrates our antenna interface into Samsungs microprocessor, none of these
suppliers is a sole supplier. 
Nevertheless, we sometimes experience short-term adverse effects due to
delayed shipments that have in the past interrupted and delayed, and could in
the future interrupt and delay, the supply of our products to our customers,
and may result in cancellation of orders for our products.  In addition, we do not generally have long
term supply contracts under which our suppliers are committed to supply us with
components at a fixed price.  Suppliers
could increase component prices significantly without warning or could
discontinue the manufacture or supply of components used in our products.  We may not be able to develop alternative
sources for product components if and as required in the future.  Even if we are able to identify alternative sources of supply, we may need to modify our products to render them
compatible with other components.  This
may cause delays in product shipments, increase manufacturing costs and
increase product prices.

5

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Because
some of our suppliers are located in Europe and the Far East, we may experience
logistical problems in our supply chain, including long lead times for receipt
of products or components and shipping delays. 
In addition, our subcontractors located in Israel and the Far East may,
on occasion, feel the impact of potential economic or political instability in
their regions, which could affect their ability to supply us with components
for our products in a timely manner.

WE CURRENTLY RELY ON A
THIRD PARTY FOR LICENSING AND UPDATING THE PRIMARY OPERATING SYSTEM WE USE IN
OUR PRODUCTS.

We
are currently required to license operating system software for the operation
of our products.  Since 1995, the
principal licensor of this software has been Personal Cipher Card Corporation,
or PC3, pursuant to a license agreement that terminates on July 5, 2005.  If PC3 terminates the license it granted us,
we may face some delays in providing our products to our customers and we
expect that it would take several months to arrange an adequate alternative.  Sales
of products containing the PC3 smart card operating system accounted for 73% of
our revenues from smart cards in 1999, substantially all of our revenues from
smart cards in 2000, 53% of our revenues from smart cards in 2001, 46% of our
revenues from smart cards in 2002 and 17% of our revenues from smart cards in
2003.

IF WE FAIL TO HIRE, TRAIN
AND RETAIN QUALIFIED RESEARCH AND DEVELOPMENT PERSONNEL, OUR ABILITY TO ENHANCE
OUR EXISTING PRODUCTS, DEVELOP NEW PRODUCTS AND COMPETE SUCCESSFULLY MAY BE
MATERIALLY AND ADVERSELY AFFECTED.

Our
success depends in part on our ability to hire, train and retain qualified
research and development personnel. 
Individuals who have expertise in research and development in our
industry are scarce.  Competition for
such personnel in the electronics industry is intense, particularly in
Israel.  Consequently, hiring, training
and retaining such personnel is both time consuming and expensive.  In addition, it may be difficult to attract
qualified personnel to Rosh Pina, which is in the North of Israel.  If we fail to hire, train and retain
employees with skills in research and development, we may not be able to
enhance our existing products or develop new products.

OUR ABILITY TO COMPETE
DEPENDS ON OUR CONTINUING RIGHT TO USE, AND OUR ABILITY TO PROTECT, OUR
INTELLECTUAL PROPERTY RIGHTS.

Our
success and ability to compete depend in large part on using our intellectual
property and proprietary rights to protect our technology and products.  We rely on a combination of patent,
trademark, copyright and trade secret law, as well as confidentiality agreements
and other contractual relationships with our employees, customers, affiliates,
distributors and others.  While
substantially all of our employees are subject to non-compete agreements, these
agreements may be difficult to enforce as a result of Israeli law limiting the
scope of employee non-competition undertakings.

We
currently have patents in the United States, Israel and other countries
covering some of our technology and have pending applications in the United
States, Europe, Israel and elsewhere which have not yet resulted in granted
patents.  We cannot be certain that
patents will be issued with respect to any of our pending or future patent
applications or that the scope of our existing patents, or any future patents
that are issued to us, will provide us with adequate protection for our
technology and products.  Others may
challenge our patents or registered trademarks.  We do not know whether any of them will be upheld as valid or
will be enforceable against alleged infringers.  Thus we do not know whether they will enable us to prevent or
hinder the development of competing products or technologies.  Moreover, patents provide legal protection
only in the countries where they are registered and the extent of the
protection granted by patents varies from country to country.

The
measures we have taken to protect our technology and products may not be
sufficient to prevent their misappropriation by third parties or independent
development by others of similar technologies or products.  Competitors may also develop competing
technology by designing around our patents and thereafter manufacturing and
selling products that compete directly with ours.

In
order to protect our technology and products and enforce our patents and other
proprietary rights, we may need to initiate, prosecute or defend litigation and
other proceedings before courts and patent and trademark offices in numerous
countries.  These legal and
administrative proceedings could be expensive and could occupy significant
management time and resources.

6

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Our
European patent covering contactless transmission of power and data between a
microprocessor and a reader was revoked as the result of a third party opposing
our patent.  Currently, this patent is the
subject of an appeal proceeding before the European Patent Office.  If our appeal is not successful, we will
lose our European patent and therefore the right to prevent others in Europe
from using the technology covered by the patent.

Furthermore,
a successful opposition to our patent could provide a basis for our competitors
to claim that our patents covering this technology in other jurisdictions are
invalid.

OUR PRODUCTS MAY INFRINGE
THE INTELLECTUAL PROPERTY RIGHTS OF OTHERS.

It
is not always possible to know with certainty whether or not the manufacture
and sale of our products does or will infringe patents or other intellectual
property rights owned by third parties. 
For example, patent applications may be pending at any time which, if
granted, cover products that we developed or are developing.  In certain jurisdictions, the subject matter
of patents is not published until the patents are issued.  Third parties may from time to time claim
that our products infringe their patent or other intellectual property
rights.  In addition, if third parties
claim that our customers are violating their intellectual property rights, our
customers may seek indemnification from us (which could be costly), or may
terminate their relationships with us. 
Our products depend on operating systems licensed to us and we may also
be subject to claims by third parties that our use of these operating systems
infringes their intellectual property rights. 
Any intellectual property claim could involve time-consuming and
disruptive litigation that, if determined adversely to us, could prevent us
from making or selling our products, subject us to substantial monetary damages
or require us to seek licenses.

Intellectual
property rights litigation is complex and costly, and we cannot be sure of the
outcome of any litigation.  Even if we
prevail, the cost of litigation could harm our results of operations.  In addition, litigation is time consuming
and could divert our managements attention and resources away from our
business.  If we do not prevail in any
litigation, in addition to any damages we might have to pay, we might be
required to discontinue the use of certain processes, cease the manufacture,
use and sale of infringing products and solutions, expend significant resources
to develop non-infringing technology or obtain licenses on unfavorable
terms.  Licenses may not be available to
us on acceptable terms or at all.  In
addition, some licenses are non-exclusive and, therefore, our competitors may
have access to the same technology licensed to us.  If we fail to obtain a required license or cannot design around
any third party patents or otherwise avoid infringements, we may be unable to
sell some of our products.

THE LOSS OF THE SERVICES
OF OUR CHAIRMAN, PRESIDENT AND CHIEF EXECUTIVE OFFICER, ODED BASHAN, COULD
SERIOUSLY HARM OUR BUSINESS.

Our
success depends, in part, on the continued service of Oded Bashan, our
Chairman, President and Chief Executive Officer.  Mr. Bashan is one of our founders and has developed our business
and technology strategy since our inception. 
The loss of services of Mr. Bashan could disrupt our operations and harm
our business.

IN THE PAST FOUR YEARS WE
HAVE ACQUIRED THREE COMPANIES OR GROUPS OF COMPANIES AND WE INTEND TO CONTINUE
TO PURSUE STRATEGIC ACQUISITIONS IN THE FUTURE.  THE FAILURE TO SUCCESSFULLY INTEGRATE ACQUIRED COMPANIES AND
BUSINESSES OR TO ACQUIRE NEW COMPANIES AND BUSINESSES MAY HARM OUR FINANCIAL
PERFORMANCE AND GROWTH.

In
the past four years we have acquired City Smart, a systems integrator in Hong
Kong; the SoftChip group, an Israeli designer of microprocessors and operating
systems for smart cards; and the InterCard group, a German systems integrator
for card systems and manufacturer of electronic devices.  We paid for all three of these acquisitions through the issuance
of our ordinary shares.  These and
future acquisitions could result in:

| |  | Difficulties in integrating our operations, technologies,
  products and services with those of the acquired companies.  For example, we cannot be sure that the
  InterCard groups current customer base will upgrade their systems to
  incorporate our products.
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                                                                                                     
| |  | Difficulty in integrating operations that are spread
  across significant geographic distances.                                                                                                                                                                     
| |   |                                                                                                                                                                                                                                                                     
| |  | Diversion of our capital and our managements attention
  away from other business issues.                                                                                                                                                                          

7

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| |  | Potential loss of key employees and customers of companies
  we acquire.                 
| | - | -----------------------------------------------------------------------------------------
| |   |                                                                                          
| |  | Increased liabilities as a result of liabilities of the
  companies we acquire.          
| |   |                                                                                          
| |  | Dilution of shareholdings in the event we acquire
  companies in exchange for our shares.

We
may not successfully integrate any technologies, manufacturing facilities or
distribution channels that we have or may acquire and we cannot assure you that
any of our recent acquisitions will be successful.  In addition, if we do not acquire new companies and businesses in
the future, our business may not grow as expected.  If any of our recent or future acquisitions are not successful,
our financial performance and business may be adversely affected.

WE ARE SUSCEPTIBLE TO CHANGES
IN INTERNATIONAL MARKETS AND DIFFICULTIES WITH INTERNATIONAL OPERATIONS COULD
HARM OUR BUSINESS.

Over
the last five years, we have derived revenues from different geographical
areas.  The following table sets forth
our sales in different geographical areas as a percentage of revenues:

|     |  | Africa |    | Europe |  | Far East |  | North
  America |    | South
  America |  | Israel |   
|---- |  | ------ | -- | ------ |  | -------- |  | --------------- | -- | --------------- |  | ------ | --
|     |  |        |    |        |  |          |  |                 |    |                 |  |        |   
|     |  |        |    |        |  |          |  |                 |    |                 |  |        |   
|1999 |  |        | 16 |        |  | 16       |  |                 | 33 |                 |  |        | 30
|2000 |  |        | 8  |        |  | 56       |  |                 | 13 |                 |  |        | 19
|2001 |  |        | 6  |        |  | 72       |  |                 | 10 |                 |  |        | 9 
|2002 |  |        | 13 |        |  | 67       |  |                 | 3  |                 |  |        | 11
|2003 |  |        | 15 |        |  | 66       |  |                 | 1  |                 |  |        | 10

*
Less than 1%

Our
ability to maintain our position in existing markets and to penetrate new,
regional and local markets, is dependent, in part, on the stability of regional
and local economies.  Our regional sales
may continue to fluctuate widely and may be adversely impacted by future political
or economic instability in these or other foreign countries or regions.

In
addition, there are inherent risks in these international operations which
include:

| |  | changes in regulatory requirements and communications
  standards;                                                        
| | - | --------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                           
| |  | required licenses, tariffs and other trade barriers;                                                                      
| |   |                                                                                                                           
| |  | difficulties in enforcing intellectual property rights
  across, or having to litigate disputes in, various jurisdictions;
| |   |                                                                                                                           
| |  | difficulties in staffing and managing international
  operations;                                                         
| |   |                                                                                                                           
| |  | potentially adverse tax consequences; and                                                                                 
| |   |                                                                                                                           
| |  | the burden of complying with a wide variety of complex
  laws and treaties in various jurisdictions.                      

If
we are unable to manage the risks associated with our focus on international
sales, our business may be harmed.

8

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BECAUSE WE REPORT IN DOLLARS
WHILE A PORTION OF OUR REVENUES AND EXPENSES ARE INCURRED IN OTHER CURRENCIES,
CURRENCY FLUCTUATIONS COULD ADVERSELY AFFECT OUR RESULTS OF OPERATIONS.

Our
functional and reporting currency is the U.S. dollar.  We generate a significant portion of our revenues in U.S. dollars
but we incur a large portion of our expenses in other currencies, principally
some employees salaries in NIS and the majority of the expenses of the
InterCard group in Euros.  To the extent
that we and our subsidiaries based in Israel and Germany conduct our business
in different currencies, our revenues and expenses and, as a result, our assets
and liabilities are not necessarily in the same currency.  We are, therefore, exposed to foreign
exchange rate fluctuations.  These
fluctuations may negatively affect our results of operations.  Our operations also could be adversely
affected if we are unable to limit our exposure against currency fluctuations
in the future.  Accordingly, we may
enter into currency hedging transactions to decrease the risk of financial
exposure from fluctuations in the exchange rate of the U.S. dollar against the
NIS.

However,
these measures may not adequately protect us from material adverse effects
resulting from currency fluctuations. 
In addition, if we wish to maintain the dollar-denominated value of
sales made in other currencies, any devaluation of the other currencies
relative to the U.S. dollar would require us to increase our other currency
denominated sales price.  That could
cause our customers to cancel or decrease orders.

WE MAY HAVE TO ADAPT OUR
PRODUCTS IN ORDER TO INTEGRATE THEM INTO OUR CUSTOMERS SYSTEMS OR IF NEW
GOVERNMENT REGULATIONS OR INDUSTRY STANDARDS ARE ADOPTED OR CURRENT REGULATIONS
OR STANDARDS ARE CHANGED.

Some
of our products are subject to government regulation in the countries in which
they are used.  For example, card
readers that are used in the United States and in Europe require certification
of compliance with regulations of the Federal Communications Commission and the
European Telecommunications Standards Institute, respectively, regarding
emission limits of radio frequency devices. 
In addition, governmental certification for the systems into which our
products are integrated may be required. 
The International Standards Organization is in the process of approving
industry standards regulating the transfer of data between contactless smart
cards and a reader.  If there is a
change to government regulations or industry standards, we may have to make
significant modifications to our products and, as a result, could incur
significant costs and may be unable to deploy our products in a timely manner.

In
addition, prior to purchasing our products, some customers may require us to receive
certification that our products can be integrated successfully into their
systems or comply with applicable regulations. 
Receipt of these certifications may not occur in a timely manner or at
all.  In some cases, in order for our
products, or for the system into which they are integrated, to be certified, we
may have to make significant product modifications.  Failure to become so certified could render us unable to deploy
our products in a timely manner or at all.

OUR PRODUCTS MAY CONTAIN
DEFECTS THAT ARE ONLY DISCOVERED AFTER THE PRODUCTS HAVE BEEN DEPLOYED.  THIS COULD HARM OUR REPUTATION, RESULT IN
LOSS OF CUSTOMERS AND REVENUES AND SUBJECT US TO PRODUCT LIABILITY CLAIMS.

Our
products are highly technical and deployed as part of large and complex
projects.  Because of the nature of our
products, they can only be fully tested when fully deployed.  For example, the testing of our parking
payment product required distribution of sample parking payment cards to
drivers, installation of electronic kiosks at which a card holder can increase
the balance on his or her card, linking the kiosks to financial and parking
databases, collecting data through handheld terminals, processing of data that
is collected by the system, compilation of reports and clearing the parking
transactions.  Any defects in our
products could result in:

| |  | harm to our reputation;                                                              
| | - | -------------------------------------------------------------------------------------
| |   |                                                                                      
| |  | loss of, or delay in, revenues;                                                      
| |   |                                                                                      
| |  | loss of customers and market share;                                                  
| |   |                                                                                      
| |  | failure to attract new customers or achieve market acceptance
  for our products; and

9

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| |  | unexpected expenses to remedy errors.
| | - | -------------------------------------

In
addition, we could be exposed to potential product liability claims.  While we currently maintain product
liability insurance, we cannot assure you that this insurance will be
sufficient to cover any successful product liability claim.  Any product liability claim could result in
changes to our insurance policies, including premium increases or the
imposition of a large deductible or co-insurance requirements.  Any product liability claim in excess of our
insurance coverage would have to be paid out of our cash reserves.  Furthermore, the assertion of product
liability claims, regardless of the merits underlying the claim, could result
in substantial costs to us, divert managements attention away from our
operations and damage our reputation.

TERRORIST ATTACKS MAY HAVE A
MATERIAL ADVERSE EFFECT ON OUR OPERATING RESULTS.

Terrorist
attacks and other acts of violence or war may affect the markets on which our
ordinary shares trade, the markets in which we operate, our operations and
profitability and your investment. 
These attacks or subsequent armed conflicts resulting from or connected
to them may directly impact our physical facilities or those of our suppliers
or customers.  Furthermore, these
terrorist attacks may make travel and the transportation of our supplies and
products more difficult and/or expensive and ultimately affect the sales of our
products.

RISKS RELATED TO OUR ORDINARY SHARES

OUR SHARE PRICE HAS FLUCTUATED
IN THE PAST AND MAY CONTINUE TO FLUCTUATE IN THE FUTURE.

The
market price of our ordinary shares has experienced significant fluctuations
and may continue to fluctuate significantly. 
The market price of our ordinary shares may be significantly affected by
factors such as the announcements of new products or product enhancements by us
or our competitors, technological innovations by us or our competitors or
quarterly variations in our results of operations.  In addition, any statements or changes in estimates by analysts
covering our shares or relating to the smart card industry could result in an
immediate effect, that may be adverse on the market price of our shares.

Trading
in shares of companies listed on the Nasdaq SmallCap and the Prime Standard
Segment of the Frankfurt Stock Exchange in general and trading in shares of
technology companies in particular has been subject to extreme price and volume
fluctuations that have been unrelated or disproportionate to operating performance.  These factors may depress the market price
of our ordinary shares, regardless of our actual operating performance.

Securities litigation has also
often been brought against companies following periods of volatility in the
market price of its securities.  In the
future, we may be the target of similar litigation that could result in
substantial costs and diversion of our managements attention and resources.

OUR SHARE PRICE COULD BE ADVERSELY AFFECTED BY FUTURE SALES
OF OUR ORDINARY SHARES.

As
of March 31, 2004, we have outstanding 5,548,861 ordinary shares, warrants to
purchase 951,135 additional ordinary shares at a weighted average exercise
price of $5.18per share and options to purchase 2,934,091 additional ordinary
shares at a weighted average exercise price of $45.11 per share.

We
may in the future sell or issue additional ordinary shares.  The market price of our ordinary shares
could drop as a result of sales of substantial amounts of our ordinary shares
in the public market or the perception that such sales may occur.  These factors could also make it more
difficult to raise additional funds through future offerings of our ordinary
shares or other securities.

WE CANNOT PREDICT THE FURTHER
IMPACT ON THE PRICE OF OUR ORDINARY SHARES FOLLOWING OUR RESTATEMENT IN AUGUST
2002 OF CERTAIN OF OUR FINANCIAL STATEMENTS OR THE EXTENT OF THE POTENTIAL
CLAIMS THAT MAY BE ASSERTED AGAINST US.

10

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We
reevaluated our accounting treatment of certain past transactions and restated
our financial statements for the fiscal years ended December 31, 1999, December
31, 2000 and December 31, 2001.  We
filed our restated financial statements in accordance with requirements in
Germany where our ordinary shares are listed. 
The market for our ordinary shares in Germany was adversely affected by
our restatement and the adverse effect in Germany may have an adverse impact on
the value of our ordinary shares listed on the Nasdaq SmallCap Market.  Our share price may be adversely affected by
the threat of litigation based upon our restatement and the recovery by
plaintiffs in any litigation actually commenced against us.

IF OUR ORDINARY SHARES ARE EVER
CONSIDERED A PENNY STOCK, ANY INVESTMENT IN OUR ORDINARY SHARES WILL BE
CONSIDERED A HIGH-RISK INVESTMENT AND BECOME SUBJECT TO RESTRICTIONS ON
MARKETABILITY.

If
the bid price of our ordinary shares falls below $5.00 and we fail to maintain
our Nasdaq listing, our ordinary shares may be deemed a penny stock for the
purposes of the Exchange Act.  The bid
price of our ordinary shares as of March 31 2004 was $8.76 but was less than
$5.00 from February 26, 2003 until October 22, 2003.  We continue to maintain our Nasdaq listing.  Brokers effecting transactions in a penny
stock are subject to additional customer disclosure and record keeping
obligations.  The additional obligations
include disclosure of the risks associated with low price stocks, stock quote
information and broker compensation.  In
addition, brokers making transactions in penny stocks are subject to additional
sales practice requirements under the Exchange Act.  These additional requirements include making inquiries into the
suitability of penny stock investments for each customer or obtaining the prior
written agreement of the customer for the penny stock purchase.  Because of these additional obligations,
some brokers will not effect transactions in penny stocks.  If our shares are deemed a penny stock in
the future, this designation could have an adverse effect on the liquidity of
our ordinary shares and your ability to sell our ordinary shares.

OUR SHAREHOLDERS COULD
EXPERIENCE DILUTION OF THEIR OWNERSHIP INTEREST BY REASON OF OUR ISSUING MORE
SHARES THAT ARE PURCHASED BY THIRD PARTIES.

Under
Israeli law, shareholders in public companies do not have preemptive
rights.  This means that our
shareholders do not have the legal right to purchase shares in a new issue
before they are offered to third parties. 
In addition, our board of directors may approve the issuance of shares
in many instances without shareholder approval.  As a result, our shareholders could experience dilution of their
ownership interest by reason of our raising additional funds through the
issuance of more shares that are purchased by third parties.  The weighted average price per share at
which we sold shares during 2003 was $4.40. 
In addition, we may continue to acquire companies or businesses in
exchange for our shares, resulting in dilution of your shareholding.

WE DO NOT ANTICIPATE PAYING CASH
DIVIDENDS IN THE FORESEEABLE FUTURE.

We
have never declared or paid cash dividends and we do not anticipate paying cash
dividends in the foreseeable future.  We
intend to retain all future earnings to fund the development of our
business.  In addition, because we have
received benefits under Israeli law for our Approved Enterprises, payment of
a cash dividend may create additional tax liabilities for us.

OUR CONCENTRATION OF VOTING
POWER WILL LIMIT YOUR ABILITY TO INFLUENCE OR CONTROL CORPORATE ACTIONS.

Oded
Bashan currently has the right to vote approximately 32.31% of our outstanding
shares by reason of his ownership of 937,493 of our outstanding shares and his
holding to vote 1,214,798  additional
ordinary shares that are owned by others. 
He therefore has the ability to control the election of directors and
the outcome of most corporate actions requiring shareholder approval.  This concentration of voting power may also
have the effect of delaying or preventing a change in control of us.

11

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OUR UNITED STATES INVESTORS
COULD SUFFER ADVERSE TAX CONSEQUENCES IF WE ARE CHARACTERIZED AS A PASSIVE
FOREIGN INVESTMENT COMPANY.

We
cannot assure you that we will not be treated as a passive foreign investment
company for 2003 or future years.  We
could be a passive foreign investment company if 75% or more or our gross
income in a taxable year is passive income. 
We would also be a passive foreign investment company if at least 50% of
the average value, or possibly the adjusted bases of our assets in particular
circumstances, of our assets in a taxable year produce, or are held for the
production of, passive income.  Passive
income includes interest, dividends, royalties, rents and annuities.  If we are or become a passive foreign
investment company, many of our U.S. shareholders may be subject to adverse tax
consequences.

RISKS RELATED TO ISRAEL

CONDITIONS IN ISRAEL MAY HARM
OUR ABILITY TO PRODUCE AND SELL OUR PRODUCTS AND SERVICES AND MAY ADVERSELY
AFFECT OUR SHARE PRICE.

Our
principal executive offices and research and development facilities, as well as
some of our suppliers, are located in 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. 
A state of hostility, varying in degree and intensity, has led to
security and economic problems for Israel. 
Despite the progress towards peace between Israel and its Arab
neighbors, the future of these peace efforts remains uncertain.  Since October 2000, there has been a
substantial deterioration in the relationship between Israel and the
Palestinian Authority and a significant increase in violence, primarily in the
West Bank and Gaza Strip.  The ongoing
violence between Israel and the Palestinians or any future armed conflicts,
political instability or continued violence in the region would likely have a
negative effect on our business condition, harm our results of operations and
adversely affect the share price of publicly traded Israeli companies such as
us.  In addition, 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.  Furthermore, several countries
still restrict business with Israel and Israeli companies, which may limit our
ability to make sales in those countries. 
These restrictions may have an adverse impact on our operating results,
financial condition or the expansion of our business.

OUR OPERATIONS COULD BE
DISRUPTED AS A RESULT OF THE OBLIGATION OF KEY PERSONNEL TO PERFORM ISRAELI
MILITARY SERVICE.

Some
of our executive officers and employees must perform annual military reserve
duty in Israel and may be called to active duty at any time under emergency
circumstances.  Our operations could be
disrupted by the absence for a significant period of one or more of our
executive officers or other key employees due to military service. Any
disruption to our operations would harm our business.

THE ISRAELI GOVERNMENT PROGRAMS
AND TAX BENEFITS IN WHICH WE CURRENTLY PARTICIPATE OR WHICH WE CURRENTLY
RECEIVE REQUIRE US TO MEET SEVERAL CONDITIONS AND MAY BE TERMINATED OR REDUCED
IN THE FUTURE.  THIS COULD INCREASE OUR
COSTS OR TAXES.

We
are entitled to tax benefits under Israeli government programs, largely as a
result of the Approved Enterprise status granted to $4.5 million of our
capital investment programs by the Israeli Ministry of Industry and Trade.  Taxable income derived from each program is
tax exempt for a period of ten years beginning in the year in which the program
first generates taxable income, up to 14 years from the date of approval or 12
years from the date of the beginning of production.  Without such benefits our taxable income would be taxed at a rate
of 36%.  To maintain our eligibility for
these tax benefits, we must continue to meet conditions, including making
specified investments in property, plant and equipment, 30% of which must be
from paid-in capital.  We cannot assure
you that we will continue to receive these tax benefits at the same rate or at
all.  From time to time, we submit
requests for expansion of our approved enterprise programs.  These requests might not be approved.  The termination or reduction of these
programs and tax benefits could increase our taxes and could have a material
adverse effect on our business.

12

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IT MAY BE DIFFICULT TO ENFORCE
A UNITED STATES JUDGMENT AGAINST US, OUR OFFICERS AND DIRECTORS OR TO ASSERT
UNITED STATES SECURITIES LAW CLAIMS IN ISRAEL.

We
are incorporated in Israel.  Most of our
executive officers and directors and the Israeli experts named in this
prospectus are non residents of the United States and a substantial portion of
our assets and the assets of these persons are located outside of the United
States.  Therefore, it may be difficult
for an investor, or any other person or entity, to enforce a United States
court judgment based upon the civil liability provisions of the United States
federal securities laws in an Israeli court against us or any of these persons
or to effect service of process upon these person in the United States.  Additionally, it may be difficult for an
investor, or any other person or entity, to enforce civil liabilities under
United States federal securities laws in original actions instituted in Israel.

PROVISIONS OF ISRAELI LAW MAY DELAY,
PREVENT OR MAKE UNDESIRABLE AN ACQUISITION OF ALL OR A SIGNIFICANT PORTION OF
OUR SHARES OR ASSETS.

Israeli
corporate law regulates acquisitions of shares through tender offers, requires
special approvals for transactions involving significant shareholders and
regulates other matters that may be relevant to these types of
transactions.  These provisions of
Israeli law could have the effect of delaying or preventing a change in control
and may make it more difficult for a third party to acquire us, even if doing
so would be beneficial to our shareholders. 
These provisions may limit the price that investors may be willing to
pay in the future for our ordinary shares. 
Furthermore, Israeli tax considerations may make potential transactions
undesirable to us or to some of our shareholders.

SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS AND
INDUSTRY DATA

This
annual report includes forward-looking statements.  We have based these forward-looking statements on our current
expectations and projections about future events.

Words
such as believe, anticipate, expect, intend, seek, will, plan,
could, may, project, goal, target and similar expressions often
identify forward-looking statements but are not the only way we identify these
statements.

These
forward-looking statements involve risks, uncertainties, assumptions and other
factors that could cause our actual results to differ materially from future
results expressed or implied by the forward-looking statements.  Important factors that could cause actual
results to differ materially from the information set forth in any
forward-looking statements include the risk factors described in Risk Factors
above and other factors discussed elsewhere in this annual report.

Many
of these factors are beyond our ability to control or predict.  You should not assume that forecasts and
anticipated events will occur, or that our expectations and plans will not
change.  We do not have any intention to
update forward-looking statements after we distribute this annual report unless
we are required to do so under U.S. federal securities laws or other applicable
laws.

ITEM
4.            INFORMATION ON THE COMPANY

A.      HISTORY AND DEVELOPMENT OF THE COMPANY

We
were incorporated under the laws of the State of Israel on February 15, 1990,
under the name of De-Bug Innovations Ltd. 
Our name was changed to On Track Innovations Ltd. on July 8, 1991.

Our
address is Z.H.R Industrial Zone, Rosh-Pina 12000, Israel.  Our telephone number is
011-972-4-686-8000.  In 1998 we
established a wholly-owned subsidiary in the United States, OTI America, Inc.,
a California corporation.  OTI America, Inc. is
located at 1601 South DeAnza Boulevard, Suite 201, Cupertino, California 95014,
and its telephone number is 1 (408) 252-0333. 
Copies of this annual report and other documents incorporated herein by
reference can be obtained on our website, www.otiglobal.com or upon request
from our Director of Corporate Communication, Ms. Galit Mendelson, at the
following telephone number: 1 (212) 531-3247.

13

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On
December 30, 1999, we acquired all of the outstanding shares of City Smart
Ltd., a Hong-Kong based systems integrator in exchange for 6,686 of our
ordinary shares (which, as of that date, had an aggregate market value of
approximately $451,300).  On January 28,
2000, we acquired all of the outstanding shares of SoftChip Israel Ltd. and
SoftChip Technologies (3000) Ltd., each an Israel-based developer and designer
of microprocessors and operating systems for smart cards, in exchange for
12,119 of our ordinary shares (which, as of that date, had an aggregate market
value of approximately $1.3 million). 
On February 2, 2000, we entered into an agreement with an indirect
wholly-owned subsidiary of Cheung Kong Infrastructure Ltd., a Hong Kong-based
infrastructure company, to establish a joint venture in Hong Kong to, among
other things, be the exclusive distributor for our products in Greater China.  In connection therewith, we contributed $3.1
million to the joint venture.  On June
15, 2000 and in January 2001, we acquired 51% and the remaining 49%,
respectively, of the nominal share capital of two related German companies, one
of which is a systems integrator for smart card systems and the other of which
is a manufacturer of electronic devices, for an aggregate purchase price of
$5.8 million.  For additional
information concerning these transactions, see C.  Organization
Structure below, and note 7 to our consolidated financial statements included
elsewhere in this annual report.

B.      BUSINESS OVERVIEW

General

Since
our incorporation in 1990, we have designed, developed and sold contactless
microprocessor-based smart card products. 
Because our cards contain a microprocessor, they can store and process
information and run multiple applications. 
Our cards are referred to as contactless because they do not require
physical contact with a card reader, as power and data are transferred to a
card through a magnetic field generated by a card reader.  Our products combine the benefits of both
microprocessors and contactless cards. 
We believe that we are one of the first companies to deploy contactless
microprocessor-based smart card products for commercial use.  In addition to contactless
microprocessor-based smart cards, we also sell products that are based on other
card technologies.

Since
our incorporation in 1990, we have focused on the development of our core
technologies and our OTI Platform-based products.  We currently offer four lines of products, each of which
constitutes a complete system, as well as components (such as smart cards and
readers) that we sell to original equipment manufacturers, or OEMs, for
incorporation into their own products. Our four complete system product lines
include:

| |  | Micropayments Solutions,
  including our EasyPark system, our mass transit payment system and the
  PayPass system that we are installing for MasterCard;
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                          
| |  | Petroleum Systems,
  including both our gasoline management system, or GMS, and our EasyFuel
  systems;                                                  
| |   |                                                                                                                                                          
| |  | Smart ID Solutions,
  for both personal identification and credentialing purposes; and                                                                   
| |   |                                                                                                                                                          
| |  | Campus Systems.                                                                                                                                          

Substantially
all of our contactless microprocessor-based products are based on a common
platform which we refer to as the OTI Platform.  The OTI Platform is based on our patents and technologies and
consists of our smart cards, readers, software that enables the development of
applications for smart cards and a communication technology that ensures that
the transmission of data to and from the card is secure and reliable.  The OTI Platform can be customized to
support a large number of applications in a multitude of markets.  Some of the markets for which we have
customized the OTI Platform include petroleum, parking, mass transit, border
crossing and medical services.

Our
products offer the following benefits:

| |  | The information stored on a card and transferred between
  the card and the reader is secure.
| | - | ---------------------------------------------------------------------------------------------
| |   |                                                                                              
| |  | Our products provide for a reliable transfer of
  information to and from a card.            

14

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| |  | Our cards are durable, easy to use and take a variety of
  forms, including key chains, tags, tickers and wristwatches.
| | - | -----------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                        
| |  | Our products are easy to install and maintain.                                                                         
| |   |                                                                                                                        
| |  | Our products enable the transition from other card
  technologies to our contactless microprocessor-based technology.  
| |   |                                                                                                                        
| |  | Our products support multiple, independent applications on
  the same card.                                            

We
intend to enhance our position in the design and development of contactless
microprocessor based smart card products by developing new applications for our
technology.  We also intend to enter new
markets, either alone or through strategic relationships, and we aim to
generate additional revenues from transaction fees and ongoing payments for
customer support.

We
market our technologically advanced products through our global network of
subsidiaries and strategic relationships. 
Our sales and marketing efforts are directed from Cupertino, California,
and carried out through our subsidiaries in North America, Africa and Europe
and our joint venture in Asia.

Industry Background

What is a smart card?

Plastic
cards that contain a semiconductor chip are generally referred to as smart
cards.  Smart card technologies were
first developed in response to the limitations of the magnetic strip commonly
used in most credit and debit cards, telephone cards and hotel room access
cards.  Smart cards store larger amounts
of information than magnetic strip cards. 
They can also update this information and store it more securely than a
magnetic strip card can.  Depending on
the complexity of the chip that a smart card contains, some smart cards can
process the stored information and support more than one application.  For example, smart cards can act as a
substitute for cash by storing a cash balance on the card that may later be
reduced or increased.  The same card can
also store information identifying its holder.

What is a smart card system?



A
smart card system is comprised of a smart card, a reader that transmits and
receives data from the smart card, and a computer that processes data received
from the reader.  A reader housed in a
protective casing is known as a terminal. 
Most terminals today are designed for contact smart cards.  These terminals rely on physical contact
between the card and the reader and contain a slot into which the smart cards
are inserted or through which they are swiped. 
Most smart cards today are credit card-sized plastic cards.  However, with the introduction of
contactless smart cards that do not need any physical contact with a reader,
the form which smart cards and readers take can vary widely.

Types of smart card chips

The
type of semiconductor chip on a smart card determines the amount of information
and the number and complexity of applications that can be provided by the card,
or how smart the card is.  In todays
market, there are three primary types of chips.  From the least technologically advanced to the most
technologically advanced, they are as follows:

15

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Memory
chip.  The most basic type of
chip used in smart cards is the memory chip. 
Smart cards containing memory chips are more advanced than magnetic strip
cards because they can store larger amounts of data.  Like magnetic strip cards, however, memory chips are not capable
of processing the stored information. 
An external reader extracts the data stored on a memory chip card which
is then transferred to an external computer system where it is processed.  Updated information is then transferred back
to the reader and then to the card.  The
most common memory card application is a disposable prepaid telephone card.

Application
Specific Integrated Circuit, or ASIC, chip.  An ASIC chip can store data and perform
limited pre-determined data processing tasks. 
It cannot be reprogrammed once created. 
ASIC-based chips are primarily used for applications that require
limited processing capabilities and lower levels of security, such as premises
access control and mass transit.

Microprocessor
chip.  Unlike ASIC chips,
microprocessor chips can be reprogrammed after being manufactured.  New software applications can be added,
replaced or updated at any time. 
Microprocessor chips can also run more applications and perform more
complex calculations than ASIC chips. 
The difference between an ASIC-based smart card and a microprocessor-based
smart card can be analogized to the difference between a calculator and a
personal computer.  A calculator is
typically programmed at the time of manufacture to perform only a limited
number of functions, and like an ASIC-based smart card, these functions cannot
subsequently be changed.  A personal
computer has an operating system that can run many different applications, and
like a microprocessor-based smart card, these applications can be modified and
added to a personal computer.

Microprocessors
can process information using a formula, or algorithm, with a great number of
variables, whereas ASIC chips can only repeat a fixed algorithm with a limited
number of variables.  Therefore, data
stored on a microprocessor chip can be encrypted using a random code that is difficult
to break.  As a result, data stored on a
microprocessor chip benefits from a higher level of security than data stored
on an ASIC chip.  At the same time,
microprocessors require more power than ASIC chips for their operations and are
typically more expensive.

Contact vs. Contactless

Another
primary distinction between types of smart cards is whether they are contact
or contactless, that is, whether physical contact between the card and the
reader is required in order to transfer data and power between them.  When using a contact card, the cardholder
swipes or inserts the card into a slot in the card reader.  When inserted properly, a metallic pad, or
contact plate, on the smart card aligns with the electronic contacts inside the
reader, and data and power are transferred across this connection.  By contrast, in contactless smart card
systems, power and data are transmitted through antennas located on the smart
card and the reader without making physical contact.

The
developers of contactless microprocessor-based smart cards face the following
significant challenges:

| |  | Support of ISO
  standards.  The
  International Standard Organization, or ISO, is in the process of approving
  standards regulating the transfer of data between a contactless smart card
  and  its reader, under the name ISO
  14443.  Currently, two separate types
  of standards  Type A and Type B  are undergoing approval by ISO.  Because both  standards are currently being used, only readers that can
  support both standards offer users the flexibility to use smart cards based
  on either standard.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
| |  | Transfer of power to
  the card.Most providers
  of contactless smart card systems use a technology called resonant circuitry
  to create a magnetic field between the card and reader through which power is
  transferred to the card.  Current
  limitations of resonant circuitry technology make this technology impractical
  for providing sufficient power to a microprocessor-based smart card in a
  contactless system.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
| |  | Support of existing
  card-based infrastructure. 
  Because of the large existing base of contact-based systems, there is
  demand for technologies that can support both contact and contactless
  applications with the same equipment. 
  However, combined contact and contactless cards have traditionally
  contained two chips, one for use by contact-based systems and one for use by
  contactless-based systems.  The use of
  two chips increases the cost of the card and the likelihood of discrepancies
  between the information stored on each chip by different applications.  The use of two chips also limits the level
  of security to the level offered by the ASIC chip.  We believe that the shortcomings of these dual
  contact/contactless cards create a need for a single chip that can work with both
  contact and contactless systems.  There
  have been attempts, principally by some of the larger chip manufacturers, to
  develop a technology that uses a single chip, but we are unaware of any
  successful commercial implementation of this technology by anyone other than
  us.

16

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Despite
the challenges discussed above, contactless smart cards offer considerable
advantages over traditional contact-based smart cards including:

| |  | Speed.  Transaction time in contactless systems is
  shorter than in contact systems because it is not necessary to insert the
  card in, or swipe it through, a reader or otherwise position it in any
  specific direction.  As a result, for
  systems that need to handle a large number of users over a short period of
  time, such as mass transit systems, contactless systems provide considerable
  time savings when aggregated over a large number of users while users save
  time on each of their transactions.
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
| |  | Convenience.  Contactless systems simplify the way
  transactions are executed.  For
  example, a shopper can pay for goods in a retail outlet simply by positioning
  a wallet containing a contactless smart card in close proximity to a reader
  positioned at the check-out, without the need to withdraw the card from the
  wallet.                                                                                                                                                                                    
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
| |  | Variety of forms.  Because contactless smart cards do not
  need to fit into a slot in a reader, they can take a wider array of forms
  desired by smart card users and providers, such as key chains, tags,
  wristwatches and other forms.                                                                                                                                                                                                                                                                                  

Maintenance
costs of contactless smart card systems are lower than maintenance costs for
contact systems since the components can be shielded in a protective casing,
and the readers and the cards are not subject to friction caused by inserting
the card into, or swiping it through, a reader.  Moreover, contactless smart card readers do not contain moving
parts such as the contact plates in contact-based systems that are subject to
wear and tear.  As a result, contactless
systems can operate under harsher conditions and have longer lives than contact
systems.  However, because contactless
smart card systems require additional components, such as antennas in the
reader and on the card and other transmission components at the level of the
reader, the up-front costs associated with a contactless system are higher than
the costs associated with a contact-based system.

The OTI Solution

Our
technology enables microprocessor-based smart card systems to operate in a
contactless environment.  This
technology is not only available for new systems, but can be integrated with and
upgrade existing contact systems and other contactless systems.  Our products have the benefits discussed
below.

| |  | Combining the
  advantages of contactless systems and microprocessor-based  systems.  Our technology successfully combines the
  features of microprocessor-based cards 
  and contactless cards and provides the following benefits to card
  users and card issuers:
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|Features                                                       |  | Advantages to card users                     |  | Advantages to card issuers                     
|-------------------------------------------------------------- |  | -------------------------------------------- |  | -----------------------------------------------
|                                                               |  |                                              |  |                                                
|                                                               |  |                                              |  |                                                
|Benefits of contactless
  cards compared to contact cards      |  |                                              |  |                                                
|                                                               |  |                                              |  |                                                
|Faster transaction time                                        |  | Shorter time to complete a transaction       |  | More transactions per minute                   
|                                                               |  |                                              |  |                                                
|Cards do not need to be inserted or put into readers           |  | Easier to use and come in a variety of forms |  | Lower maintenance costs                        
|                                                               |  |                                              |  |                                                
|Durability                                                     |  | The card lasts longer                        |  | Reduce card replacement cost                   
|                                                               |  |                                              |  |                                                
|Benefits of
  microprocessors compared to ASIC or memory chips |  |                                              |  |                                                
|                                                               |  |                                              |  |                                                
|Multiple applications                                          |  | The card has multiple uses                   |  | Generates revenues from additional applications
|                                                               |  |                                              |  |                                                
|Enhanced security                                              |  | Information on the card is more secure       |  | System is less vulnerable to fraud             

17

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| |  | Ease of transition from
  other card systems to contactless microprocessor-based systems.  We provide our customers with an easy
  upgrade of their existing systems by allowing card issuers who currently
  utilize magnetic strip card systems or other contact-based systems to switch
  to a contactless system without forcing them to replace their existing
  infrastructure.  For example, as part
  of a project for SmartStop, we upgraded standard point-of-sales and gaming
  machines that supported only magnetic strip and coins to support contactless
  microprocessor-based smart cards.
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
| |  | Ease of transition from
  contact-based microprocessors to contactless microprocessors.  Chip manufacturers and operating system
  providers can use our technology to upgrade their off the- shelf products to
  support both contact and contactless operations.  This can be done by combining our technology with our
  customers microprocessor, enabling the microprocessor to support contact and
  contactless operations.  By applying
  our patented hardware, customers can save months of development time and
  reduce the time to market for their products.                                
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
| |  | Support of multiple
  standards.  Our readers are
  capable of supporting ISO 14443 Type A and Type B standards.  Because both of these standards are
  currently being used, we offer users the flexibility to adopt either
  standard.                                                                                                                                                                                                                                                                                                                                                                   

Strategy

Our
goal is to be the leading provider of contactless microprocessor-based smart
card products.  Key elements of our
strategy for achieving this goal include:

| |  | Enhance technological
  position.  We intend to
  continue to invest in research and development in order to enhance our
  technological position, develop new technologies, extend the functionality of
  our products and services, and offer innovative products to our
  customers.  In the future, we intend
  to achieve an in-house capability to design microprocessors and operating
  systems for smart cards.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
| |  | Expand global market
  presence.  Our sales and
  marketing effort is currently directed from Cupertino, California.  We market our product through a global
  network of marketing subsidiaries in North America, Europe and Africa, and in
  Asia through our joint venture, e-Smart. 
  We intend to use these entities to strengthen our presence in existing
  markets, penetrate new markets, provide local customer service and technical
  support, and adapt our products to our local customers specific needs.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
| |  | Increase focus on
  generating high-margin, recurring revenues.  We currently derive most of our revenues
  from one-time payments for our products and technologies.  We intend to generate additional revenues
  by receiving service fees for ongoing customer services and technical support
  and transaction fees from our customers based on the volume of transactions
  effected in systems that contain our products.  For example, we have entered into such fee arrangements with
  respect to our parking systems in Israel and our gasoline management systems
  in South Africa.  By reducing
  customers up-front payments or deferring payment for our products in return
  for receiving on-going participation in the revenue they generate for the
  customer, we are able to build and maintain long-term relationships with our
  customers and generate a constant stream of high-margin, recurring revenues
  and, at the same time, provide cost-effective turnkey solutions to our
  customers.
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
| |  | Leverage existing
  relationships and seek new relationships.  We have entered into relationships with
  Xerox to cover the U.S. public library and higher education markets, and
  Beyond Petroleum, or BP (formerly known as British Petroleum), to cover the
  South African petroleum market. 
  We have entered into these relationships in order to facilitate or
  accelerate our penetration into new markets, as well as assist us in defining
  and pursuing new applications for our products.  We are continuously seeking additional relationships to
  complement our marketing strategy and promote our brand worldwide.                                                                                                                                                                                                                                                                                                                                                                                   

|
|
|

18

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| |  | Leverage presence in
  existing industries to enter into new industries.  We offer our customers the ability to add
  new applications to their smart cards, thereby expanding the number of
  industries in which our products are used. 
  For example, users of the gasoline management system we have sold to
  BP in South Africa will have in the future the option to add a payment
  application to their card.  The
  application will allow them to pay with the card at convenience stores that
  install the system and to earn loyalty points every time they do so.  We plan to generate additional revenues
  through the sale of products required to add and operate these applications.
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
| |  | Pursue strategic
  acquisitions.  We plan to
  pursue acquisitions of companies that enhance our manufacturing, sales,
  marketing and research and development capabilities.  In this way, we plan to expand our product
  offerings and provide more comprehensive service to our customers.  Since our initial public offering in 1999,
  we have acquired CitySmart, a systems integrator in Hong Kong, the SoftChip
  Group, an Israeli based developer and designer of microprocessors and
  operating systems for smart cards, and the InterCard group, a German systems
  integrator for card systems and manufacturer of electronic devices.                                                    

Core technologies

Since
our inception in 1990, we have developed technologies that facilitate the
transmission of data and power between a contactless microprocessor-based smart
card and a reader.  Our products are
based on a number of core technologies, which are discussed below.

Power and data transmission technology

We
refer to our power and data transmission technology as matched antenna
technology.  The power, as well as the
data, is transmitted to the microprocessor installed on the smart card through
an electro-magnetic field generated by the reader.  Our technology offers a number of key advantages:

| |  | Contactless smart cards
  can be based on microprocessors. 
  In contrast to resonant circuitry technology, which is the predominant
  technology used for ASIC-based contactless smart cards, our matched antenna
  technology enables a reader to power a standard microprocessor embedded in
  the contactless card.                                                                                                                                                                                  
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
| |  | Replacing one of the
  components of the smart card system does not require re-tuning the system.  In smart card systems based on resonant
  circuitry, once a component of the system is replaced the whole system needs
  to be re-tuned in order to function properly.  This increases maintenance time and costs.  Our technology allows components of the
  system to be replaced without any need for re-tuning, providing for easy,
  cost effective installation and maintenance of our products.
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
| |  | The reader does not
  need to be installed in close proximity to its antenna.  The reader can be installed at a distance
  of up to 33 meters, or 100 feet, from the antenna, providing the ability to
  install smart card systems in harsh conditions, including potentially
  explosive environments such as gasoline stations.  In addition, the customer can install the reader where there is
  easy access, facilitating installation and maintenance of the reader.                              

19

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Antenna
interface



Our
antenna interface technology enables a single microprocessor to connect, or
interface, with both contact and contactless readers.  We refer to this as a dual interface feature.  This enables customers with existing contact
systems to gradually transition to contactless cards, rather than incurring
up-front all the costs of replacing the contact system with a contactless
system.  We have developed the following
two methods of implementing our dual interface feature:

| |  | Adding our antenna
  interface chip.  The chip
  can be added to standard microprocessor-based contact cards, allowing the
  card to operate as a contactless smart card, in addition to being a contact
  card.  This can be implemented within
  a relatively short period of up to three months, which reduces our customers
  time to market.                                                                                                                                                                                                                 
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
| |  | Integrating an antenna
  interface into the microprocessor.  The antenna interface can be integrated into a microprocessor,
  which reduces the cost of manufacturing dual interface cards once
  manufacturing levels reach significant volumes of chips.  At that point, the additional upfront cost
  of engineering work required in order to successfully integrate the two
  components  the microprocessor and the antenna interface  into one chip, is
  offset by the fact that only a single component is required.  This is referred to as a monochip.

In
1998, our antenna interface, which enables any contact-based microprocessor
with any operating system to work in a contactless environment, was awarded the
annual prize of the European Smart Card Applications and Technology
organization for the most innovative achievement for smart cards in 1997.

Antenna module

Contactless
smart cards require an antenna as a conduit for ingoing and outgoing
transmissions of power and data. 
Traditional contactless smart cards contain an antenna coil that is
embedded around the edge of the card. 
The technology for embedding the antenna coil into the card is complex,
creating a barrier for contact smart card manufacturers to transition to
manufacturing contactless smart cards. 
Our technology eliminates the need to embed the antenna coil around the
edge of the smart card by mounting the antenna on a standard size platform, or
module, into which the microprocessor is embedded.  Our technology allows contactless cards to be produced using
existing contact card production processes without the need for new
machinery.  This significantly reduces
manufacturing costs.  In addition, when
a manufacturing infrastructure exists in the local market, shipping costs to
the local market and possibly duties can be reduced.

In
2000, our antenna module was awarded the annual prize of the European Smart
Card Applications and Technology organization for the most innovative
achievement for smart cards in 1999.

Communications technology

We
have developed a unique communications technology that includes:

20

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| |  | a set of rules, or a protocol, that is designed to ensure
  that information is properly transmitted from the reader to the card, and
  vice versa;
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                    
| |  | an additional layer of coding that makes the transmission
  of information more difficult to intercept and read; and                               
| |   |                                                                                                                                                    
| |  | a technique that reduces the effect of background
  interference on the quality of the transmission.                                               

Microprocessor
chip and operating system design know-how

Through
our acquisition of the SoftChip Group, we have employed personnel skilled in the
design of microprocessors and development of operating systems for smart
cards.  SoftChip acquired its know-how
through its involvement in the design of microprocessors for smart cards on
behalf of leading microprocessor manufacturers.

Products

The OTI Platform

Substantially
all of our products are based on a common platform, which we refer to as the
OTI Platform.  The OTI Platform combines
our patented technologies and consists of:

| |  | smart cards, which can take a variety of forms including
  tags, stickers, wristwatches, key chains and plastic credit card-sized cards;
| | - | ----------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                         
| |  | smart card readers;                                                                                                                     
| |   |                                                                                                                                         
| |  | software that enables the development of applications on
  contactless microprocessor-based smart cards; and                            
| |   |                                                                                                                                         
| |  | a method of communications that regulates the transmission
  of data between a contactless smart card and a reader.                     

The
following is a graphical representation of a contactless microprocessor-based
smart card based on the OTI Platform:

| | 
| | 

All
of these elements work together to provide a foundation, upon which we or our
customers build applications.  The
transmission of information between the card and the reader in an OTI Platform
-based product is secure and reliable. 
For example, if communications are interrupted in the course of a
transmission, the information transferred is incomplete, and the OTI Platform
will reject the impaired transmission and require that the information be
re-transmitted.  In addition, our OTI
Platform ensures that information is transmitted from the card in an encrypted
form only to readers that are authorized to receive and able to decipher the
transmission.

The
OTI Platform supports several types of payment methods including debit and
credit applications, loyalty points and an electronic cash substitute that
increases or reduces the balance on the users card.  We refer to these as e-purse applications.

21

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Customized products.

We
sell customized equipment based on our OTI Platform, including smart cards,
readers and related equipment, to support applications in particular
markets.  Examples of these applications
are described below.  We typically
receive payments for nonrecurring engineering for this customization and then
sell the customized product to the customer.

Complete systems.

We
sell complete systems based on our OTI Platform.  In addition to the equipment included in our customized products,
complete systems include application software and specifically designed
hardware.  Our complete systems currently
consist of our gasoline management system, our campus system and our parking
payment system.

Our Products

Our products consist of:

Micropayments Solutions.

We
typically design our micropayments solutions while teaming up with financial
institutions and back office providers. 
These solutions offer a cashless system and loyalty program for small
purchases, such as fast food, gasoline and movie tickets.  Our micropayments solutions include the
following:

| |  | Parking payment system.  Our electronic parking payment system,
  which we refer to as EasyPark, enables drivers to be charged for the exact
  period of time they are parked and simplifies the monitoring and collection
  of parking fees.  Drivers are issued contactless
  microprocessor-based smart cards, or EasyPark cards, to replace existing
  parking payment methods, including parking meters.  The EasyPark card stores the amount of money, or the balance
  that is available for payment of parking fees.  A driver can increase the balance at special self-service
  kiosks placed at convenient locations. 
  Compliance with parking regulations is monitored by inspectors using
  specially designed hand-held terminals.                                    
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
| |   | In May 1999, the EasyPark system was selected as the
  national parking system for Israel. 
  During 2000, the system was widely implemented throughout Israel.  We are currently marketing the EasyPark
  system through our global network of subsidiaries.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
| |  | Mass transit.  We have designed a product that enables
  efficient fare collection from a large volume of passengers in various types
  of mass transportation systems, such as buses and trains.  The smart card serves as the passengers
  ticket.  The chip in the smart card stores
  the passengers fare balance and is debited with the fare when the passenger
  boards or disembarks.  The balance on
  the smart card can be increased repeatedly. 
  e-Smart received the first commercial order for this product for
  installation in a mass transit system in China.  Installation of the system commenced in the first quarter of
  2001.  In 2001, 2002 and 2003, 9%,
  less than 2% and less than 1%, respectively, of our revenues were derived
  from this system.
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
| |  | PayPass.  An OTI micropayments solution is supplying
  key components of the technology behind MasterCard Internationals PayPass,
  a new contactless card payment program that can be utilized at any of
  MasterCards more than 29 million acceptance locations around the world.  We commenced sales of micropayments
  solutions in 1998.  Sales of
  micropayments accounted for $2.0 million (or 10%) of our revenues in 2003 and
  $2.3 million (or 13%) of our revenues in 2002.                                                                                                                                                                                                                                                                                          
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
| |  | E-purse (Stored Value
  Cards).  We have developed
  a product that enables a person to load pre-paid value on a card, which
  provides float for issuers, while enabling cardholders to pay for small
  purchases in environments such as phone booths, vending machines and fast
  food restaurants, without the need for exact change.                                                                                                                                                                                                                                                                                                                                                                                                                                             
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
| |   | As of the date of this annual report, we have not
derived revenues from sales of our E-purse product.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 

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Petroleum Systems.

Our
petroleum systems include our gasoline management system, or GMS, and
EasyFuel.  Sales of our petroleum
systems accounted for $4.6 million (or 23%) of our revenues in 2003, $2.5
million (or 14%) of our revenues in 2002, $1.2 million (or 6%) of our revenues
in 2001 and $1.6 million (or 12%) of our revenues in 2000.

| |  | GMS.  GMS records and monitors the identity of
  the driver and the vehicle, the drivers or fleets credit status, the
  vehicles fuel consumption and other information determined by the customer,
  such as periodic vehicle maintenance. 
  By processing and managing this information, GMS allows oil companies
  and fleet managers to receive billing information automatically, simplify
  payment processes, track the use of each vehicle and reduce the risk of theft
  or fraud.  GMS also enhances the
  loyalty of fleet drivers and managers to oil companies operating
  participating gas stations.
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
| |   | The information is communicated via an antenna in the
  vehicles gas tank to an antenna mounted on the fuel nozzle when the fuel
  nozzle is inserted into the vehicles gas tank, and is then transferred to the
  gas station computer. Disengaging the nozzle from the gas tank will
  immediately turn off the pump.                                                                                                                                                                                                                                                                                              
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
| |   | The
  following diagram illustrates a typical GMS system:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
| |   | We commenced sales of GMS in 1995.  GMS is being used by a number of petroleum
  companies, such as BP South Africa in Africa, Turcas in Turkey and Mobil in
  Ecuador.  As of December 31, 2003, a
  total of approximately 850 gas stations have been equipped with GMS,
  including in South Africa, Turkey and Ecuador, and we have delivered GMS
  equipment for approximately 85,000 vehicles.                                                                                                                                                                                                                   
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
| |  | EasyFuel.  Our wireless petroleum solutions are named
  EasyFuel.  Similar to GMS, EasyFuel
  incorporates options for retail and private fleets as well as a
  pay-at-the-pump solution.  The system
  monitors and expedites the fueling and payment process through a completely
  wireless detection and authorization system. 
  This system is also ideally positioned for the retail petroleum market
  by enabling drivers to pay for gasoline at the pump, pay for other services
  and products at the gas station and earn loyalty points for these purchases.                                              

Smart ID Solutions.

Our
smart identification products combine the portability of smart cards with the
capability to support advanced identification and authentication technology and
manage significant amounts of information. 
Our smart identification products include the following:

| |  | National documentation.  We have developed a product that supports
  advanced authentication methods developed by other companies.  Authentication methods are required by
  governments for identification documentation.  Biometric identification involves inputting data regarding the
  physical characteristics of the smart card holder, such as his fingerprints
  or facial impression, into the smart card. 
  This data is stored in the smart card and compared with the actual
  characteristics of the smart card holder when the card is presented for
  identity validation.  This enables
  governments to transition from paper-based national documentation systems to
  a more cost-effective paperless identification system, encompassing multiple
  forms of government identification such as passports, national identification
  cards, drivers licenses and national health cards.  In addition, we have incorporated our antenna module into a
  sticker.  The sticker can be attached
  to existing paper documentation, thus converting it into a contactless smart
  card.
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

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| |   | The Israeli government selected our technology and
  products for use in a system controlling passage between Israel and areas
  governed by the Palestinian Authority which will be supplied by Electronic
  Data Systems.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
| |   | Sales of our national documentation product commenced in
  2003, and accounted for 1% of our revenues in 2003.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
| |  | MediSmart.  We currently are testing a product that
  is designed to secure, process and manage medical information.  The product will provide doctors and
  hospital administrators with information regarding the patients identity,
  medical history, insurance coverage and payment history.  This information could be automatically
  updated after each treatment. 
  Treatment information could be automatically transferred to the
  insurance providers computer system. 
  This product would reduce costs to medical providers, provide
  increased security for a patients medical history and improve the quality
  and speed of service to patients.  We
  began field tests of the product in South Africa in 2003.

Campus Systems.

Our
campus systems provide applications such as access control, pre-paid value
cards for small purchases, cafeteria access and copy machine payments on a
single card.  Our campus systems include
the following:

| |  | OTI campus system.  We designed our OTI campus system for use
  in self-contained or campus environments, including closed communities,
  senior citizen homes, universities, schools and corporate facilities.  Each campus user is provided with a
  contactless smart card that provides secured access to different areas of the
  campus, and can include various types of e-purse applications, monitoring of
  time and attendance at work, vending machine functions, gasoline management
  and cafeteria operations.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
| |   | Our OTI campus system has been in full commercial
  operation in over 40 kibbutzim in Israel since 1993, more than 20 residential
  complexes in Hong Kong since 1997, two senior citizen homes in Israel since
  1998 and a country club in Israel since 2000.  We also have installed a campus system operation at a
  university in Germany.  In January,
  2001, we established a relationship with Xerox to market our campus system in
  the United States.  Sales of our
  campus system accounted for $6.4 million (or 33%) of our revenues in 2003 and
  $6.8 million (or 38%) of our revenues in 2002.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
| |  | InterCard campus
  system.  Our wholly-owned
  German subsidiary, InterCard GmbH Kartensysteme, or InterCard, currently
  sells and manages campus systems that are operated by cards based on a wide
  array of technologies, including magnetic strips, ASICbased systems and
  contact microprocessor-based systems, provided by a number of companies, such
  as GemPlus and Cards & More GmbH. 
  InterCards campus system is used in over 80 universities in Germany
  under the name UniCard.  The primary
  difference between the OTI campus system and InterCards campus system is that
  InterCards campus system includes management and clearing software for
  closed campus environments and is based solely on contact cards.  Within the next 12 months we intend to
  offer campus systems integrating our contactless smart card technology with InterCards
  management and clearing software. 
  Additionally, we intend to offer InterCards customers the option to
  gradually replace or upgrade their readers and cards to our contactless
  microprocessor-based systems.

24

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OEM Products.

We
sell components including smart cards, antenna modules and smart card readers
or reader boards, with development tools for integration into other products,
to smart card manufacturers, terminal manufacturers and system integrators.  For example, our wholly-owned German
subsidiary InterCard GmbH Systemelectronic, manufactures and sells electronic
devices for InterCard and for non-smart card applications in the transportation
industry.  We have a variety of
development kits with product samples and software programs available to enable
customers to integrate our components with their product offerings.

Technology licensing

In
December 2003, we entered into an agreement with Atmel Corporation for the
purpose of collaborating on the development of Mastercards PayPass
contactless payment program.  Atmel was
selected by Mastercard to supply the secure contactless microcontroller.  Under the agreement, Atmel has partnered
with us to provide contactless solution expertise for PayPass, including the
operating system, application support and inlay technology.  The agreement may be terminated by either
party in the event of a breach of the agreement by, or the commencement of a
bankruptcy, receivership or liquidation proceeding involving the other party.

In
1998, we licensed our contactless technology on a non-exclusive basis to
Samsung for the purpose of developing a microprocessor that integrates our
antenna interface into Samsungs microprocessor, which we refer to as a
monochip.  The duration of the license
is ten years and is extended automatically for one-year periods for so long as
Samsung continues to commercially manufacture monochips.  We received a one-time technology licensing
fee from Samsung and will receive royalties from sales of monochips by
Samsung.  We may purchase monochips from
Samsung at a preferential price and we have agreed to sell components for card
readers to Samsung at preferential prices. 
Both we and Samsung are permitted to sell monochips worldwide other than
to customers who are known to be a client of the other party.  We may license our technology to other
microprocessor manufacturers in the future.

Customer service and technical support

We
provide our customers with training and installation support and ongoing customer
service and technical support through our global network of subsidiaries. We
have a support team of 12 employees consisting of three employees located in
our corporate headquarters in Rosh Pina, Israel, two in the United States,
three in Africa and four in Europe. Our customer service team in Rosh Pina,
Israel provides central services to our network of local subsidiaries.  The subsidiaries, in turn, provide 24-hour
customer support to our customers, through telephone and email for an ongoing
fee. On-site technical support is provided to customers for a fee.  During each of the five years in the period
ended December 31, 2003, revenues derived from customer service and technical
support constituted up to 6% of our total revenue.

Customers

We
sell our products to systems integrators and service providers.  Our customers can be divided into the
following groups:

| |  | Systems integrators.  Systems integrators incorporate our
  products into their systems, which they then sell to service providers and
  install for use in a specific project. 
  Some of these systems integrators also market and distribute our
  products.  We derived $3.6 million (or
  82%) of our revenues in 1999, $6.0 million (or 46%) of our revenues in 2000,
  $3.6 million (or 18%) of our revenues in 2001, $3.9 million (or 22%) of our
  revenues in 2002 and $5.5 million (or 28%) of our revenues in 2003 from sales
  to systems integrators.
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
| |  | Service providers.  Service providers include companies and
  government agencies that offer smart card services to end-users who are their
  customers.  We derived $833,000 (or
  19%) of our revenues in 1999, $7.1 million (or 54%) of our revenues in 2000,
  $16.3 million (or 82%) of our revenues in 2001, $14.1 million (or 78%) of our
  revenues in 2002 and $14.1 million (or 72%) of our revenues in 2003 from
  sales to service providers.                                                                                                          

25

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Sales and marketing

We
have built a global network of subsidiaries through which we sell and market
our products.  As of December 31, 2003,
we had a total sales and marketing staff of 25 employees in four
locations.  We market our products in
the Americas through OTI America, which employs 1 person in sales and
marketing.  In Africa we sell and market
through OTI Africa, which employs 8 people in sales and marketing.  In Europe, we sell and market through the
InterCard group and our Frankfurt office, which together employ 10 people in
sales and marketing.  In Israel, we sell
and market through our headquarters in Rosh Pina, which employs 6 people in
sales and marketing.  Our sales and
marketing staff implements marketing programs to promote our products and
services and enhance our global brand recognition.  Our current marketing efforts include participation in trade
shows and conferences, press releases, updating our web site, conducting
speaking engagements and advertising in industry publications.  We also conduct technical seminars to inform
customers, distributors and other industry participants of the benefits of our
products and technologies.

Some
of the independent systems integrators to which, for their own use, we sell our
products also act as distributors for our products.  We have granted some of our systems integrators exclusive
distribution rights within a particular country or region.  We generally guarantee exclusivity only if
certain sales targets are met.  In
addition, we have appointed our joint venture, e-Smart, as exclusive
distributor of our products in Greater China, not subject to any minimum sales
targets.  e-Smart will remain our exclusive
distributor in the Greater China for so long as we and our joint venture
partner, Cheung Kong Infrastructure Holdings, hold any shares of e-Smart,
unless we and Cheung Kong Infrastructure Holdings agree to terminate the
appointment.  We have also undertaken
not to compete with the activities of e-Smart in Greater China for so long as
we are a shareholder of e-Smart and for a period of one year after the
termination of our distribution agreement if the termination occurs due to our
default.  e-Smart has undertaken not to
compete with our activities in Greater China for one year following the
termination of our distribution agreement for any reason.

Cheung
Kong Infrastructure Holdings has agreed to use reasonable efforts to cause its
affiliated companies not to compete with e-Smart.

Seasonality

Our
revenues are subject to seasonal fluctuations related to the slowdown in
spending activities and the increased activity related to the year-end
purchasing cycles of many end-users of our products.  Hence, our sales and profits in the fourth quarter of every year
tend to be higher than in other quarters, particularly the first and second
quarters of each year.  We anticipate
that we will continue to experience quarter-to-quarter seasonal fluctuations.

Manufacturing

External
manufacturers and suppliers

We
currently purchase substantially all of the hardware and software components of
our products from third-party suppliers and outsource substantially all of the
manufacturing and assembling of our products to manufacturing
subcontractors.  This allows us to focus our resources on the design,
development and marketing of our products. 
We have not entered into long-term supply contracts.  Instead, we purchase components on a purchase
order basis.  Our policy is to use more
than one supplier and manufacturing subcontractor for each part of our
production process in order to limit over-dependence on any one supplier or
manufacturer.

Smart
cards.

| |  | Microprocessors.  The current suppliers of microprocessors
  for our smart cards are STM, Atmel, and Samsung.  In addition, we have jointly developed with Samsung a
  monochip that integrates our antenna interface with Samsungs microprocessor.  Samsung has begun production of the monochip.  In addition, through SoftChip, we are
  currently developing a microprocessor design for smart cards.
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                                                                                                                                                                                                                                             
| |  | Modules.  A module is a silicon plate into which the
  components of a microprocessor are embedded. 
  The microprocessor module and the antenna module on which the
  microprocessor and antenna interface are mounted are manufactured in Europe
  and South East Asia.                                                                                                                                   

26

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| |  | Packaging.  We package the components for our smart
  cards in a variety of forms, including key chains, tags, stickers and cards.  The key chains, tags and stickers
  containing our microprocessor and antenna modules are manufactured in China
  and in Europe.  Our credit card-sized
  smart cards are manufactured in Korea, China, Thailand and the United States.
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                                                                                                                                                                                                            
| |  | Readers.  We purchase off-the-shelf components for
  our readers from various suppliers including Infineon, Motorola, AMD and
  National Semiconductor.  The readers
  are assembled for us in Israel, mainly by USR Electronics Ltd.                                                                                                                                      

Operating
systems.

We
currently use the PC3 smart card operating system in our OTI Platform.  Since July 1995, we have licensed the PC3
smart card operating system from Personal Cipher Card Corporation under a
royalty-bearing non-exclusive license which terminates in July 2005.  Sales of products containing the PC3 smart
card operating system accounted for 73% of our revenues from smart cards in
1999, substantially all of our revenues from smart cards in 2000, 53% of our
revenues from smart cards in 2001, 46% of our revenues from smart cards in 2002
and 17% of our revenues from smart cards in 2003.

In
addition, we have developed DVK, a smart card operating system for
contact-based microprocessors, that we intend to upgrade to contactless
operation and incorporate into some of our products over the next 12 months.

Quality
control

We
maintain strict internal and external quality control processes.  We require that the facilities of our
suppliers and manufacturing subcontractors are ISO 9002 certified.  ISO 9002 refers to a quality assurance model
established by ISO for companies that design, produce, install, inspect and
test products.

Internal
manufacturing capabilities

We
currently package, test and encode our readers at our production facility in
Rosh Pina, Israel.  Our packaging and
testing facilities are ISO 9002 certified. 
In Rosh Pina, we also incorporate modules into credit card-sized
contactless smart cards.

InterCard
Systemelectronic, our subsidiary, owns a manufacturing facility in Germany for
electronic devices primarily for the transportation industry and card terminals
for the systems provided by InterCard GmbH Kartensysteme, its sister
company.  We also manufacture card
readers at the facilities of InterCard Systemelectronic.

We
have granted our joint venture, e-Smart, an option to manufacture smart cards
using our technology for sale in Greater China. We will retain exclusive rights
to our technology and any smart cards manufactured by e-Smart will be required
to contain modules manufactured by us. 
We are entitled to receive royalties at rates to be agreed upon for
smart cards manufactured by e-Smart.

Government regulation

Some
of our products are subject to government regulation in the countries in which
they are used.  For example, card
readers that are used in the United States require certification of compliance
with regulations of the Federal Communications Commission and those used in
Europe require certification of compliance with regulations of the European
Telecommunications Standards Institute regarding emission limits of radio
frequency devices.  In the United
States, our GMS and retail petroleum products are subject to compliance with
regulations of Underwriters Laboratories Inc., a public safety and testing
certification organization, and in Europe to regulations of the European
Union.  Our products are currently
compliant with these regulations.

27

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Research and development

We
believe that our future success depends on our ability to maintain our
technological leadership, enhance our existing products and develop new
products and technologies.  Accordingly,
we intend to continue devoting substantial resources to research and
development.  We are paying royalties to
the Government of Israel at a rate of 3%-5% of sales of the products in which
the Government of Israel has participated in financing through grants, up to
the amounts granted, linked to the U.S. dollar with annual interest at LIBOR as
of the date of the approval.  The following
table describes our research and development activities during each of the past
five years (US$ in millions):

|                                            |  | 1999 |      | 2000 |   | 2001 |   | 2002 |      | 2003 |  
|------------------------------------------- |  | ---- | ---- | ---- | - | ---- | - | ---- | ---- | ---- | -
|                                            |  |      |      |      |   |      |   |      |      |      |  
|                                           
|Our expenditures net of grants from the OCS |  | $    | 1.5  |      | $ | 3.9  |   | $    | 6.2  |      | $
|Our net expenditures of annual revenues     |  |      | 33   | %    |   | 30   | % |      | 31   | %    |  
|OCS grants                                  |  | $    | .645 |      | $ | 1.0  |   | $    | .599 |      | $

Our
research and development activities focus on three areas:

| |  | implementing our core technologies in microprocessors and
  readers;                                                 
| | - | ---------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                      
| |  | enhancing the functionality of our components and
  expanding the range of our  products
  to serve new markets; and 
| |   |                                                                                                                      
| |  | developing new innovative technologies related to the
  operation of contactless 
  microprocessor based smart cards.

At
December 31, 2003, we employed 49 persons in our research and development
department.  Our research and
development facilities are located at our headquarters in Rosh Pina, Israel.  We believe that our success is based on our
experienced team of senior engineers and technicians who have on average 12
years of experience in their respective fields.  Our research and development facilities are ISO 9001
certified.  ISO 9001 refers to a quality
assurance model established by ISO for research and development facilities.

Proprietary technologies

Our
success and ability to compete depend in large part upon protecting our
proprietary technology.  We rely on a
combination of patent, trademark, copyright and trade secret law, as well as
know-how, confidentiality agreements and other contractual relationships with
our employees, affiliates, distributors and others.  We have a number of issued patents in various jurisdictions with
respect to our technologies, as well as a number of pending patent applications.  The more significant of these are as
follows:

|Technology                                                                                                                      |  | Status                                                                                                                                                                                                                                                                                                        
|------------------------------------------------------------------------------------------------------------------------------- |  | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|                                                                                                                                |  |                                                                                                                                                                                                                                                                                                               
|Contactless transmission of power and data between a smart
  card and a reader.                                                 |  | Patents granted in the United States, Israel, Canada,
  Singapore, Australia, South Africa and Hong Kong.  The U.S. patent expires in 2010 and the other patents expire in
  2011.                                                                                                                            
|                                                                                                                                |  |                                                                                                                                                                                                                                                                                                               
|Dual interface technology for contact/ contactless
  operation using a single microprocessor on the same card.                  |  | Patent granted in the United States, Israel and
  Australia.  These patents expire in
  2017.  European, Canadian and Hong
  Kong patent applications pending. 
  Patent Cooperation Treaty (PCT) application in the national phase
  for Germany, France, Italy, Spain, United Kingdom and The Netherlands.
|                                                                                                                                |  |                                                                                                                                                                                                                                                                                                               
|System that uses contactless smart card for parking
  systems.                                                                  |  | Patents granted to Easy Park in Israel, the United States,
  Europe, Hong Kong and South Africa. 
  These patents expire in 2012.                                                                                                                                                                             
|                                                                                                                                |  |                                                                                                                                                                                                                                                                                                               
|Dual interface technology for contact/ contactless
  operating in a single card conforming to ISO 14443 Type A and B standards. |  | Patent granted in the United States, Europe and Hong
  Kong.  PCT application in the national
  phase for Germany, Belgium, France, Ireland, Italy, United Kingdom and The
  Netherlands.  Application pending in
  Israel, Canada and Australia.                                                             

28

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|Technology                                              |  | Status                                                                                                                                                                                                                                  
|------------------------------------------------------- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|                                                        |  |                                                                                                                                                                                                                                         
|Long range transmission of data.                        |  | Patent granted in the United States, Europe, Hong Kong and
  in Israel.  PCT application in the
  national phase for Germany, France, Italy, Spain and the United Kingdom.  Applications pending in Canada and
  Australia.             
|                                                        |  |                                                                                                                                                                                                                                         
|Vehicle tag incorporated into a capless fuel inlet cap. |  | Patent granted in the United States, Europe and in
  Australia. Accepted in Israel and Hong Kong. 
  Application pending in Canada. 
  PCT application in the national phase for Germany, France, Italy,
  Spain and the United Kingdom.

We
cannot be certain that patents will be issued with respect to any of our
pending or future patent applications. 
In addition, we do not know whether any issued patents will be
enforceable against alleged infringers or will be upheld if their validity is
challenged.  We are currently appealing
the decision of the European Patent Office revoking our patent relating to
contactless transmission of power and data. 
Our reader products, but not those of the InterCard group, are based on
the technology covered by this patent. 
We cannot assure you that this proceeding will be successful.  If our appeal is not successful, we could
lose the right to prevent others in Europe from using the technology covered by
the patent.  Our right to manufacture
and sell our products in Europe is not dependent on the outcome of this
opposition proceeding.  This proceeding
does not have a direct effect on our patents granted in the United States and elsewhere,
although a successful opposition to this patent could provide a basis for our
competitors to claim that our patents covering this technology in other
jurisdictions are invalid.

We
have registered trademarks in the United States, the European Community and
Israel for OTI and OTI INSIGHT.  EYECON
is a registered European Community Trade Mark and is also registered in
Israel.  As the result of an opposition
action by Eicon Networks Corporation, we reached an agreement with Eicon on
January 2, 2002 regarding the future use of the EYECON trademark described in
our US Trademark Application Serial No. 75/313,746 and Israeli Trademark
Application No. 110844.  According to
the agreement, we: (i) withdrew our US trademark application and all other applications
associated with the EYECON trademark worldwide and notify all trademark offices
of our intention to withdraw such applications within 30 days of the effective
date of the agreement; (ii) cancelled and will cancel existing registrations of
the EYECON trademark by providing notice of such cancellation to the relevant
trademark offices in the US and Canada and by no later than December 18, 2004
in all other countries worldwide, except several countries including Israel,
where the applicable date will be December 18, 2005; and (iii) have begun
phasing out our use of the EYECON trademark worldwide.  SCIENCE-NON FICTION is a registered European
Community Trade Mark and registered in Israel and is a pending trademark
application in the United States.  EASY
PARK is a registered trademark in the United States, Canada, Singapore and
Israel.  We are also using other less
important registered trademarks and unregistered trademarks and trade names.

Competition

Contactless
microprocessor-based products and technologies.  We anticipate competition in sales of our
products, systems and technologies from other providers of contactless
microprocessor-based smart card technologies. 
We expect competition to intensify as our competitors commit greater
resources to the development of contactless microprocessor-based smart
cards.  Some of the larger chip
manufacturers that operate in the smart card market, including Atmel, STM,
Infineon and Philips Semiconductors, have announced that they are developing
contactless microprocessor-based smart cards. 
However, we are not aware of any other company that has deployed
contactless microprocessor-based smart card products for commercial use.

Contactless
ASIC-based products and technologies.  We compete with contactless ASIC-based technologies developed
primarily by Philips Semiconductors, which comply with ISO 14443 and which are
used by some of the largest manufacturers of smart cards, including Gemplus,
Schlumburger and Giesecke & Devrient, and Sonys contactless ASIC-based
technology, that is not ISO compliant. 
Other companies offer contactless ASIC-based systems for specific
applications.  For example, TIRIS, a
subsidiary of Texas Instruments, provides ASIC-based keyring tags for gasoline
management systems, which compete with the VeriPass system which we have
developed with and for VeriFone.  In
addition, Orpak Industries, Ltd. and Roisman Engineering Ltd., both based in
Israel, also offer gasoline management systems, which use simple ASIC-based
devices powered by batteries and that do not comply with the standards set by
ISO.

Other
contact-based technologies. 
We compete with contact-based products such as microprocessor-based
contact cards, ASIC-based contact cards, memory chip cards and magnetic strip
cards.  We believe that these cards
offer inferior functionality compared to contactless microprocessor-based smart
cards.  Nevertheless, some of our
potential customers have in the past, and may in the future, consider these
alternatives sufficient for their needs.

29

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C.      ORGANIZATIONAL
STRUCTURE

The
chart below describes the corporate structure of our principal subsidiaries and
major affiliates.

| |    
| | ---
| | (1)
| | (2)
| | (3)
| | (4)

Easy
Park Ltd.

Easy
Park Ltd. developed our EasyPark system. 
Easy Park is incorporated under the laws of the State of Israel, uses
office space in our headquarters in Rosh Pina, Israel and rents additional
office space in Tel Aviv.  Each holder
or holders, individually or in the aggregate, of 10.5% of Easy Parks issued
share capital may appoint one member to Easy Parks board of directors.  By reason of our ownership of 91.8% of Easy
Parks outstanding shares, we currently we have the right to appoint all of the
members of its board of directors.

Our
Easy Park system was selected for a national parking system for Israel.

The SoftChip Group

On
January 28, 2000, we acquired from Michael and Yael Cohen all of the shares of
SoftChip Israel Ltd. and SoftChip Technologies (3000) Ltd., which we refer to
collectively as the SoftChip group, in exchange for 12,119 of our ordinary
shares.  The closing price of our
ordinary shares on this date was EUR103.30 per share (equivalent to $100.90 per
share).  It was agreed that Michael
Cohen would continue as chief executive officer of SoftChip Technologies (3000)
Ltd. pursuant to an employment agreement with a six year term.  Michael Cohens employment agreement was
terminated on March 31, 2003 and instead we have hired Michael Cohen to provide
services as a consultant.  We also
granted Michael Cohen options to purchase 10,000 of our ordinary shares at an
exercise price of $30.00 per share. 
These options vest in five equal installments commencing on February 1,
2001.

The
SoftChip group designs microprocessors and operating systems for smart
cards.  Under the share purchase
agreement, Michael and Yael Cohen agreed not to develop, promote or sell
competing or similar products to our products or the SoftChip groups products
for a period of two years after the termination of his employment with
Softchip, without our or the SoftChip companies prior approval.

30

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OTI America, Inc.

OTI
America, Inc. is headquartered in Cupertino and incorporated in California, US
and provides marketing and customer support services for our products in North
and South America.  In addition, our
global marketing and strategy development is headed from OTI America.

OTI Africa Ltd.

OTI
Africa Ltd. is headquartered and incorporated in South Africa and provides
marketing, distribution and customer support services for our products in
Africa.

The InterCard group

On
June 15, 2000 and in January 2001, we acquired 51% and the remaining 49%,
respectively, of the nominal share capital of two related German companies, one
of which InterCard GmbH Kartensysteme, is a systems integrator for smart card
systems and the other of which, InterCard GmbH Systemelectronic, is a
manufacturer of electronic devices, for an aggregate purchase price of $5.8
million.  We refer to the two companies
collectively as the InterCard group.  As
of the date of this annual report, we have completed all our obligations to the
sellers.

InterCard
GmbH Kartensysteme primarily supplies smart card systems for over 80 university
campuses in Germany.  InterCard GmbH
Kartensysteme also sells copy machine payment systems to universities,
libraries and corporations.  We plan to
offer to the InterCard groups customers the option to upgrade their existing
payment systems to contactless smart card systems using our technologies.  In addition, we intend to market, distribute
and support our products through the InterCard groups marketing, distribution
and support network in Europe to their existing customer base in order to
accelerate our penetration into the European market.

InterCard
GmbH Systemelectronic has a manufacturing facility which currently manufactures
electronic devices for InterCard GmbH Kartensysteme and the transportation
industry.  We manufactured some of the
readers that we have historically offered in this facility commencing in 2001,
and we expect to continue manufacturing products for the transportation
industry.

e-Smart System Inc.

On
February 2, 2000, we entered into a shareholders agreement to establish e-Smart
System Inc., a joint venture in Hong Kong owned 50% by us and 50% by Ocean
Wonder Limited, an indirect wholly-owned subsidiary of Cheung Kong
Infrastructure Ltd., or CKI, a Hong Kong-based infrastructure company, which in
turn is a subsidiary of Cheung Kong (Holdings) Ltd.  Cheung Kong (Holdings) has significant stakes in Hutchison
Wampoa, a Hong Kong based telecommunications company, and Hong Kong
Electric.  As part of the joint venture,
we appointed e-Smart as exclusive distributor for our products in Greater China
(the Peoples Republic of China, Taiwan, Hong Kong and Macau).  The joint venture is using the established
distribution network of Cheung Kong (Holdings) and will also undertake
marketing activities in Greater China.  The
venture is building a research and development center in Hong Kong that will
conduct ongoing product and technological research to customize our products to
different local needs within Greater China.

In
exchange for its interest in the venture, CKI contributed $3.6 million in
cash.  We contributed $3.1 million in
cash and undertook to contribute an additional $500,000 on February 2,
2001.  In January 2001, e-Smart
exercised an option that we had granted to it to acquire the assets of our
subsidiary, City Smart Ltd., a Hong Kong based systems integrator, in lieu of
the additional $500,000 we had undertaken to contribute to e-Smart.  City Smart supplied smart card systems to
residential housing complexes in Hong Kong using identification cards for
security.  City Smart ceased all
operations following the acquisition of its assets by e-Smart.  We have agreed to indemnify e-Smart and CKI
against any losses they incur in connection with City Smart as a result of any
event occurring prior to February 2, 2000 or arising out of any City Smart
customer contract entered into prior to the exercise of the option, provided we
are notified of the claim prior to February 2, 2002.  We have received no notice of any claim under the
indemnification.

Under
the shareholders agreement, the board of directors of e-Smart has six members,
three of whom are appointed by us and three by CKI.  Each party will appoint one less director for each 20% of
e-Smarts share capital that it transfers to an unaffiliated third party.  The chairman of the board of directors is
nominated by CKI and the deputy chairman by us.

31

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| |  | For so long as CKI retains at least a 50% interest in
  e-Smart, the chairman of  the board
  has a tie-breaking vote with respect to approval or alteration of the annual
  business plan, any borrowings, giving of guarantees or indemnities or  creation of encumbrances over e-Smart
  assets or property, and taking any actions that deviate from the annual
  business plan or that is or may be 
  detrimental to the interests of CKI.                                            
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
| |  | For so long as we retain at least a 50% interest in e-Smart,
  the deputy chairman has a right of veto with respect to use by e-Smart of any
  smart card  technology other than our
  technology or technology similar to ours, provided that we can timely (1)
  provide such other smart card technology to e-Smart, or (2) obtain such other
  smart card technology for e-Smart at direct cost price plus a mark-up of
  between 7.5% plus a $0.10 per product handling cost, and 9.5%.

Subject
to e-Smarts cash flow or unless otherwise decided by its board of directors, a
minimum of 50% of e-Smarts net profits after taxes are to be distributed to
its shareholders each year.  The
following payments are to be paid prior to any distribution of profits:

| |  | In the event that e-Smarts annual gross profits exceed
  $750,000, CKI is  entitled to receive
  a yearly management fee equal to 20% of e-Smarts gross  annual profit until it has received an
  aggregate amount equal to $5,050,000.                      
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                                                                                                
| |  | In consideration for granting distribution and other
  rights with respect to our  products,
  we received $1,550,000 at the end of the first and second quarters of  2000 and received $170,000 at the end of
  2001 and 2002 and $160,000 at the end of 2003.

In
order to fund the operations of e-Smart, CKI has undertaken to provide, or
procure from a third party, a $4.0 million line of credit.  We have agreed to guarantee up to $2.0
million of any borrowings under this line of credit if requested to do so.

Effective
June 22, 2002, the shareholders agreement between the shareholders of e-Smart
was amended, to give effect, among other things, to the following provisions:

| |  | Transfer by e-Smart of all contacts and business contacts
  outside the territories of China, Hong Kong, Macau and Taiwan (Greater
  China); to OTI, so that the territory in which e-Smart will act as OTIs
  exclusive agent will be restricted to Greater China; and
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                                                                                                           
| |  | Restricting e-Smart for a period of 12 months from
  engaging in any business with these terminated or transferred contracts.                                                                                                                                             

In addition, the parties agreed that as of the date of
the amendment, the president and the CEO of e-Smart will be appointed by Ocean
Wonder Limited and that e-Smart shall pay to OTI, within 7 days from the date
of the amendment the amount of $165,000 for settling e-Smarts payments to OTI
in connection with the distribution rights granted to e-Smart under the
shareholders agreement.

D.      PROPERTY, PLANT
AND EQUIPMENT

We
lease an aggregate of 10,639 square meters of land in Rosh Pina, Israel from
the Israel Lands Authority.  Of the
10,639 square meters, 2,377 meters are leased under a 49 year lease which
expires on November 16, 2041, with an option to extend for a further period of
49 years.  Our principal management,
administration and marketing activities occupy a 1,188 square meter facility on
the site.  The remaining 8,262 square
meters of land are leased under a 49 year lease with the Israel Lands Authority
which expires on September 14, 2047, with an option to extend for a further
period of 49 years.  Our principal engineering,
research and development and part of our manufacturing activities occupy a
4,000 square meter facility on this site. 
The rent for the initial 49-year term of each of these leases was
prepaid in its entirety at the beginning of the lease terms as is customary in
Israel for leases of property for industrial purposes from the Israel Lands
Authority.

32

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Our
rights under these leases, including the facilities built on the site, are
pledged for the benefit of Bank Hapoalim. 
Our majority owned subsidiary, Easy Park Ltd., leases office space in
this complex from us.  Easy Park also
leases an aggregate of 90 square meters in Tel Aviv pursuant to a lease that
expires on December 31, 2004.

OTI
America, Inc. leases an aggregate of 1,964 square feet of office space in
Cupertino, California pursuant to a lease that expires on January 31,
2005.  e-Smart leases an aggregate
of  300 square meters of office space in
Hong Kong pursuant to a lease that expires on July 15, 2005.  e-Smart leases leases an aggregate of 2,600
square feet of office space pursuant to a lease that expires on June 15,
2005.  OTI Africa Ltd. leases an
aggregate of 2,500 square meters of office space in Cape Town, South Africa,
pursuant to a lease that expires on December 31, 2004, with an option to extend
the lease for an additional three years.

InterCard
GmbH Kartensysteme owns an aggregate of 5,201 square meters of land in Bad
Durrheim, Germany.  Of this land 3,000
square meters can be used commercially and the remainder is currently
designated as farmland.  The
commercially usable land is leased by InterCard GmbH Kartensysteme to InterCard
GmbH Systemelectronic.  This land is
used by InterCard GmbH Systemelectronic for its manufacturing facility.  InterCard GmbH Kartensysteme leases an
additional 1,626 square meters of space which is used for administration,
storage and development purposes.  The
lease agreement was automatically extended until December 31, 2004.

ITEM
5.            OPERATING AND FINANCIAL REVIEW AND PROSPECTS

A.      OPERATING RESULTS

The
following discussion and analysis is based on and should be read in conjunction
with our consolidated financial statements, including the related notes,
contained in Item 18.  Financial Statements.

Overview

We
design, develop and sell contactless microprocessor-based smart card
products.  Our headquarters and research
and development activities are in Israel; our sales and marketing efforts are
directed from Cupertino, California, with additional sales and support offices
in Europe, South Africa and Asia; and our packaging, assembly and manufacturing
facilities are in Israel and Germany.

Since
our incorporation in 1990, we have focused on the development of our core
technologies and our OTI Platform-based products.  We currently offer four lines of products, each of which
constitutes a complete system, as well as components (such as smart cards and
readers) that we sell to original equipment manufacturers, or OEMs, for
incorporation into their own products. Our four complete system product lines
include:

| |  | Micropayments
  Solutions, including our EasyPark system, our mass transit
  payment system and the PayPass system that we are installing for MasterCard;
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                          
| |  | Petroleum
  Systems, including both our gasoline management system, or
  GMS, and our EasyFuel systems;                                                  
| |   |                                                                                                                                                          
| |  | Smart
  ID Solutions, for both personal identification and
  credentialing purposes; and                                                                 
| |   |                                                                                                                                                          
| |  | Campus
  Systems.                                                                                                                                        

We
began selling campus systems, our first product line, in 1993.  Over time, our customer base for campus
systems increased and, in 1995, we began selling our second product line,
GMS.  In 2003, we introduced and began to
realize revenues from EasyFuel, our contactless petroleum system, which we expect
to account for an increasing proportion of our petroleum system sales.  In 1998, we were awarded a contract for the
first of our micropayments systems, an electronic parking payment system which
we refer to as EasyPark.  We began to
deploy EasyPark in 2000 and completed deployment of the first system in June
2001.  We deployed our first mass
transit micropayments system in China during 2000 and in the United States in
2003.  In 2002, we began to realize
nonrecurring engineering revenues from the PayPass micropayments system that we
are installing for MasterCard International and we are hopeful that we may
begin to recognize product sale revenues from that system in the future.

|
|
|

33

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We
began to market components for incorporation into the products of OEMs with our
acquisition of InterCard GmbH Systemelectronic in June 2000.  During 2002 and 2003, product sales to OEMs
accounted for $6.1 million (34%) and $6.3 million (32%), respectively, of our
total revenues.

We
have reported net losses for each year that we have been in business.  For the fourth quarter of 2003 we reported
quarterly unaudited net profits for the first time ever.  Our unaudited fourth quarter profits totaled
$102,000.  For the third quarter of 2003
and the fourth quarter of 2002, we had reported net losses of $1.8 million and
$2.0 million, respectively.  Because our
business tends to be seasonal, with greater sales in the third, and particularly
the fourth, quarter of every year, we do not anticipate net earnings for either
of the first two quarters of 2004 and we have no assurance as to whether or not
we will be profitable in either of the last two quarters.  Furthermore, we expect to incur losses, on
an annual basis, at least through 2005.

Sources of Revenue

We
have historically derived a substantial majority of our revenues from the sale
of our products, including both complete systems and OEM components.  Asubstantial
majority of our product revenues has been, and is likely to continue to be,
from the sale of complete systems.  We
anticipate that revenues from product sales will continue to represent the
substantial majority of our revenues in the future.  We also generate revenues from nonrecurring engineering, customer
services and technical support, and licensing and transaction fees.

During the past three years,
the revenues that we have derived from product sales, customer services and
technical support, and licensing and transaction fees have been as follows (dollar
amounts in thousands):

|                       |  | 2001 |        | 2002 |  | 2003 |  
|---------------------- |  | ---- | ------ | ---- |  | ---- | -
|                       |  |      |        |      |  |      |  
|Product Sales          |  | $    | 18,217 |      |  | 92   | %
|Non-recurring          |  |      |        |      |  |      |  
|Engineering            |  |      | 500    |      |  | 3    | %
|Services and
  Support |  |      | 676    |      |  | 3    | %
|Licensing and          |  |      |        |      |  |      |  
|Transaction
  Fees     |  |      | 495    |      |  | 2    | %
|                       |  |      |        |      |  |      |  
|                       |  | $    | 19,888 |      |  | 100  | %
|                       |  |      |        |      |  |      |  

Product
sales declined in 2002 primarily because of our strategic decision
to cease marketing certain low-margin products.  Our product sales increased in 2003, both because of a $1.8
million increase in sales of products that we had begun to market in prior
years and our initial sales, of products that we began to market in
2003.  We expect that, over time, our
newer products will make a proportionately greater contribution to our total
sales than our older products.

Non-recurring
engineering revenues consist of payments for the adaptation of our
products to the requirements of a specific customer.  We receive payments for non-recurring engineering regardless of
whether our customers ultimately purchase the customized product.  Revenues from non-recurring engineering vary
widely from period to period because not all projects that we undertake require
customization of our products and those that do require varying degrees of
customization.

Customer
services and technical support consist of fees paid by purchasers of
our products for ongoing customer services and technical support.  These fees tend to vary widely from period
to period, as customers requirements tend to be ad hoc, rather than subject to
any fixed schedule.

Licensing
and transaction fees include one-time and periodic payments for
manufacturing or distribution rights for our products.  Transaction fees are paid by customers based
on the volume of transactions processed by systems that contain our products.  We expect to generate additional revenues
from transaction fees in the future as the installation and usage of systems
that contain our products become more widespread.

34

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Our
business plan anticipates that revenues from customer services and technical
support, and from licensing and transaction fees will account for a growing
portion of our overall revenues in future periods.  However, our product sales may be adversely affected in the near
term by our offering customers a
reduction in up-front product and system prices as an inducement to accept
transaction fee-based pricing.

Although
we sell our products primarily in Europe, we have derived revenues from
different geographical areas.  The
following table sets forth our sales, by dollar amount (in thousands) and as a
percentage of revenues in different geographical areas, during the past three
years:

| |                |  | Africa        |       | Europe        |  | Far East |  
| | -------------- |  | ------------- | ----- | ------------- |  | -------- | -
| |                |  |               |       |               |  |          |  
| | 2001           |  | $             | 1,171 |               |  | 6        | %
| | 2002           |  | $             | 2,363 |               |  | 13       | %
| | 2003           |  | $             | 2,978 |               |  | 15       | %
| |                |  |               |       |               |  |          |  
| |                |  |               |       |               |  |          |  
| |                |  | North America |       | South America |  | Israel   |  
| |                |  |               |       |               |  |          |  
| | 2001           |  | $             | 1,704 |               |  | 9        | %
| | 2002           |  | $             | 1,960 |               |  | 11       | %
| | 2003           |  | $             | 1,901 |               |  | 10       | %
| |                |  |               |       |               |  |          |  
| | * Less than 1% |  |               |       |               |  |          |  

We anticipate that, over time, the revenues that we
derive from North America will grow both in absolute amounts and as a
percentage of our total revenues.  Our
revenues from Europe, which are primarily received in Euros, will have a
varying impact upon our total revenues, as a result of fluctuations in the
Euro/dollar exchange rate.  In addition,
and regardless of these fluctuations, as the proportionate contribution of North
America to our total revenues grows, the proportionate contribution of Europe
is likely to decline.

Cost of revenues and gross margin

Our
costs of revenues, by revenue source, and gross profit,  for each of the past three years were as
follows (in thousands):

|                                         |  | Year ended
  December 31 |       
|---------------------------------------- |  | ------------------------ | ------
|                                         |  |                          |       
|                                         |  | 2001                     |       
|                                         |  |                          |       
|Cost
  of revenues*                      |  |                          |       
|Products                                 |  | $                        | 10,727
|Non-recurring
  engineering              |  |                          | 20    
|Customer
  service and technical support |  |                          | 491   
|                                         |  |                          |       
|                                         |  |                          |       
|Total
  cost of revenues                 |  | $                        | 11,238
|                                         |  |                          |       
|                                         |  |                          |       
|Gross
  profit                           |  | $                        | 8,650 

---

* Licensing and transaction fees do not have directly attributable  cost of revenues.  See below.

Products.  Products cost of revenues consists primarily
of materials, as well as the salary, subcontractors and related costs for our
technical staff who assemble our products and related overhead expenses.  The year-to-year changes reflected in the
table above are primarily the result of the changes in the levels of our
revenues from product sales during the years covered by the table.

Nonrecurring
engineering.  Nonrecurring
engineering cost of revenues consists of the salary and related costs for our
technical staff who customize our products and related overhead expenses.

Licensing
and transaction fees. 
Licensing and transaction fees revenues do not have directly attributable  cost of revenues .  The only  costs incurred
to initiate the project include selling and marketing and are classified as
such in the consolidated statement of operations.

Customer
services and technical support. 
Customer services and technical support cost of revenues consist of the
salary and related costs for our technical staff that provide those services
and support and related overhead expenses.

35

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For
any given period, our total gross margin will depend on, and vary to reflect,
the mix of product revenues, non-recurring engineering revenues, licensing and
transaction fees and customer and technical support fees in that period.  The gross margin for each of our sources of
revenue during the past three years was as follows:

|                                       |  | 2001 |  | 2002 |  | 2003 | 
|-------------------------------------- |  | ---- |  | ---- |  | ---- | 
|                                       |  |      |  |      |  |      | 
|                                       |  |      |  |      |  |      | 
|Product Sales                          |  | 41%  |  | 44%  |  | 50%  | 
|Nonrecurring
  Engineering             |  | 96%  |  | 77%  |  | 62%  | 
|Services and
  Support                 |  | 27%  |  | 37%  |  | 45%  | 
|                                       |  |      |  |      |  |      | 
|Total
  Gross 
                 Margin |  | 43%  |  | 47%  |  | 52%  | 

Operating expenses

Our
operating expenses and operating loss for each of the past three years were as
follows (in thousands):

|                                                                      |  | Year ended
  December 31 |        
|--------------------------------------------------------------------- |  | ------------------------ | -------
|                                                                      |  |                          |        
|                                                                      |  | 2001                     |        
|                                                                      |  |                          |        
|Operating
  expenses                                                  |  |                          |        
|Research
  and development                                            |  | $                        | 6,768  
|Less
   participation by the Office of the
          Chief Scientist |  |                          | 599    
|                                                                      |  |                          |        
|                                                                      |  |                          |        
|Research
  and development, net                                       |  |                          | 6,169  
|Selling
  and marketing                                               |  |                          | 6,585  
|General
  and administrative                                          |  |                          | 4,668  
|Amortization
  of goodwill and intangible
          assets            |  |                          | 1,124  
|Other
  expenses                                                      |  |                          | 340    
|                                                                      |  |                          |        
|                                                                      |  |                          |        
|Total
  operating expenses                                            |  |                          | 18,886 
|                                                                      |  |                          |        
|                                                                      |  |                          |        
|Operating
  loss                                                      |  | $                        | (10,236
|                                                                      |  |                          |        

Research
and development.  Our
research and development expenses consist primarily of salaries and related
expenses of our research and development staff, as well as subcontracting
expenses.  All research and development
costs are expensed as incurred.  Our
research and development expenses decreased in 2002 and 2003 due to cost
-cutting measures that we undertook and our trend to developing solutions for
our customers specific order requirements. 
However, we expect that our research and development expenses will
increase in the future as we continue to develop new products and new
applications for our existing products and as a result of designing our own
microprocessors and smart card operating system.

Selling and
marketing.  Our selling and
marketing expenses consist primarily of salaries and substantially all of the
expenses of our sales and marketing subsidiaries and offices in the United
States, South Africa, the Far East and Europe, as well as expenses related to
advertising, professional expenses, participation in exhibitions and
tradeshows.  The decline, from 2001 to
2002, in our selling and marketing expenses was the result of our cost-saving
measures in salaries, advertising, exhibitions and traveling expenses.  The increase in 2003 was the result of both
increased sales and an increase in our European selling and marketing costs, as
reported in dollars, by reason of the appreciation of the value of the Euro
against the dollar.  We expect that our
selling and marketing expenses will increase in the future as we continue to
expand our local sales and marketing subsidiaries, open new offices and hire
additional personnel.

36

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General and
administrative.  Our general
and administrative expenses consist primarily of salaries and related expenses
of our executive, financial and administrative staff.  These expenses also include costs of our professional advisors
such as legal and accounting experts, expenses related to office expenses,
insurance and vehicle expenses and have grown together with the scope,
magnitude and complexity of our business. 
We expect that general corporate and administrative expenses will
increase for the future as we continue to expand our operations.

Financial income (expenses), net

Financial
income consists primarily of interest earned on our cash equivalents balances
and other financial investments and foreign exchange gains. Financial expenses
consist primarily of interest payable on bank loans and foreign exchange
losses.

Our
financial income (expenses), net for each of the past three years, has been as
follows (in thousands):

|                                  |  | Year ended
  December 31 |    
|--------------------------------- |  | ------------------------ | ---
|                                  |  |                          |    
|                                  |  | 2001                     |    
|                                  |  |                          |    
|                                  |  |                          |    
|Financial
  income                |  | $                        | 520
|Financial
  expenses              |  |                          | 449
|                                  |  |                          |    
|Financial
  income (expense), net |  | $                        | 71 
|                                  |  |                          |    

Critical Accounting
Policies and Estimates

We
prepare our consolidated financial statements in conformity with accounting
principles generally accepted in the U.S. 
In so doing, we are required to make certain estimates, judgments and
assumptions that we believe are reasonable based upon the information available.  These estimates and assumptions affect the
reported amounts of assets and liabilities at the date of the financial
statements and results of operations. 
To fully understand and evaluate our reported financial results, we
believe it is important to understand our revenue recognition policy, and our
policy with respect to goodwill and other intangible assets.

Revenue
recognition.  We recognize
product revenues upon delivery, provided there is persuasive evidence of an
agreement, delivery has occurred the fee is fixed or determinable and
collection is probable.  In the case of
nonrecurring engineering, delivery is deemed to occur on completion of testing
and approval of the customization of the product by the customer and no further
obligation exists.

Technology
license revenues are recognized at the time the technology and license is
delivered to the customer, collection is probable, the fee is fixed and
determinable, persuasive evidence of an arrangement exists, no significant
obligation remains under the sale or licensing agreement and no significant
customer acceptance requirements exist after delivery of the technology.

We
recognize revenues from customer services and technical support as the services
are rendered over the period of the contract.

We
recognize transaction fees as they are earned based on usage.

Our
revenue recognition policies are consistently applied for all revenues
recognized.

Impairment
of Goodwill and Other Intangible Assets.  We periodically assess the impairment of goodwill and other
intangible assets whenever events or changes in circumstances indicate that the
carrying value may not be recoverable. 
In 2002, Statement of Financial Accounting Standards No. 142, Goodwill
and Other Intangible Assets became effective, and as a result, commencing on
January 1, 2002, goodwill is no longer being amortized.  In lieu of amortization, we have performed
an initial impairment review of goodwill as of January 1, 2002 and will perform
an annual impairment review thereafter at the level of each reporting
unit.  We have estimated the fair value
of each reporting unit and compared it to its reported carrying amount.  To determine fair value, we have used a
number of valuation methods including quoted market prices, discounted cash
flows and revenue multiples, taking into consideration factors such as control
premiums and synergies.  In certain
cases we have obtained an opinion from an independent appraiser.  Based on this comparison for each reporting
unit, no goodwill impairment losses were recorded.  As we operate in an industry which is rapidly evolving and
extremely competitive, it is possible that our estimates could change in the
near term and there can be no assurance that future goodwill impairment tests
will not result in a charge to our results of operation.  Net goodwill and other intangible assets
amounted to approximately $5.7 million as of December 31, 2003.

37

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Significant
management judgments and estimates must be made when establishing criteria for
future cash flows, estimating reporting unit fair value and assessing
impairment.  If our judgments and
estimates relating to goodwill and other intangible assets prove to be inadequate,
an asset may be determined to be impaired and our financial results could be
materially adversely impacted. 
Likewise, if a future event or circumstance indicates that an impairment
assessment is required and, through the performance of that assessment, an
asset is determined to be impaired, our financial results could be materially
and adversely impacted in future periods.

Furthermore,
in order to implement our strategy of receiving transaction fees from customers
each time our systems are utilized, we anticipate reducing customers up-front
payments for our products in return for receiving ongoing participation in the
revenues they generate.  Our current
principal source of short-term liquidity is available cash and cash
equivalents.  We believe that our cash
on hand and decrease in the consumption of cash will sufficiently meet our
liquidity requirements for the foreseeable future.  We will also consider private placements of equity or convertible
debt from time to time as and when our financial advisers indicate there is
investor interest on terms satisfactory to us. 
We believe that in the event that we are not able to or elect not to
raise additional capital in the near term, the expected sales in our business
activities together with the measures we have already taken to reduce our
operating costs, and additional measures that we are able to identify in the
future to reduce such costs, will enable us to sufficiently meet our liquidity
requirements for the foreseeable future.

Notwithstanding
the worldwide economic slowdown, we have continued to reduce operating costs
and salary obligations.

B.      LIQUIDITY AND
CAPITAL RESOURCES

Our
principal sources of liquidity since our inception have been sales of equity
securities, borrowings from banks, convertible loans, cash from the exercise of
options and grants from the OCS and, to a lesser extent, cash from
operations.  We had cash and cash
equivalents of $9.7 million as of December 31, 2003 and $2.1 million as of
December 31, 2002.  In addition, we had
short-term investments of $1.0 million as of December 31, 2003 and $1.7 million
as of December 31, 2002.  We believe
that our working capital is sufficient to meet our present requirements.

Operating activities. For the
year ended December 31, 2003, our operating activities generated $267,000 of cash
despite our net loss of $3.6 million, primarily due to a $1.1 million
increase in trade receivables resulting from the increase in sales and a
$716,000 decrease in long-term deferred revenues. The principal non-expense items that
resulted in our operations being cash positive were our $1.9
million amortization of deferred stock compensation, a $1.5 million charge for
depreciation of our property and equipment and a $674,000 charge for stock options granted
to consultants. For the year ended December 31, 2002 we used $1.1 million of cash in
operating activities.

Investing and financing activities.

In 2003, net cash used
in investing activities was $502,000 as compared to $779,000 in 2002.  Substantially all of our investments in both
years were in property, plant and equipment, primarily in a building,
computers, software, manufacturing equipment and office equipment.

38

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---

For
the year ended December 31, 2003, net cash provided by financing activities was
$7.8 million due to $8.9 million in proceeds from the issuance of shares, partially
offset by a $2.1 million repayment of long term bank loans.  For the same period in 2002, net cash used
in financing activities was $2.1 million due to a $1.6 million repayment of
long-term loans and from a $1.1 million decrease in short-term bank credit, partially
offset by $372,000 long term loans received.

In
connection with our joint venture, e-Smart, we have agreed to guarantee up to
$2.0 million of borrowings under a line of credit that Cheung Kong
Infrastructure has undertaken to provide, or cause to be provided, to the joint
venture.  As of December 31, 2003, this
line of credit has not been utilized.

Market Risk

Market
risks relating to our operations result primarily from changes in interest
rates and currency fluctuations.  In
order to limit our exposure, we may enter, from time to time, into various
derivative transactions. Our objective is to reduce exposure and fluctuations
in earnings and cash flows associated with changes in interest rates and
foreign currency rates.  We do not use
financial instruments for trading purposes. It is our policy and practice from
time to time to use derivative financial instruments only to limit exposure.

As
of December 31, 2003, we held $1.0 million in marketable bonds of the State of
Israel, all with high credit quality issuers and with a limited amount of
credit exposure to any one issuer.

Interest Rate Risks.

We
are exposed to market risks resulting from changes in interest rates, relating
primarily to our loan obligations to banks. 
We do not currently use derivative financial instruments to limit
exposure to interest rate risk.  As of
December 31, 2003, we had fixed interest rate loan obligations of
$799,000.  $646,000 were denominated in
Euros and $153,000 were denominated in NIS. 
These loans will be repaid during the next 3 years.  At the same time, we had variable interest
rate loan obligations of $2.4 million in dollars.  These loans will also be repaid during the next 8 years.  We believe that the potential loss that
would result from an increase or decrease in the interest rate is immaterial to
our business and consolidated net assets.

The
carrying value of the loans are equivalent to or approximate their value as
they bear interest at approximate market rates.

Impact of Inflation and Currency Fluctuations.

Our
functional and reporting currency is the U.S. dollar.  We generate a significant portion of our revenues and we incur
some of our expenses in other currencies. 
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 will lag behind inflation in
Israel.  In addition, we are exposed to
the risk that the dollar will be devalued against the NIS.  To date, we have not been materially
affected by changes in the Israeli rate of inflation or the exchange rates of
the Shekel compared to the dollar, but we cannot assure you that we will not be
adversely affected in the future.

The
annual rate of inflation in Israel was (1.89)% in 2003, 6.5% in 2002 and 1.4%
in 2001.  The NIS increased in value by
approximately 7.6% in 2003 and devalued against the dollar by approximately
7.3% in 2002 and 9.4% in 2001.

The
functional currency of the InterCard group is the Euro.  Significantly, all of the Intercard group
revenues are earned and significantly all of its expenses are incurred in
Euros.  To the extent that there are
fluctuations between the Euro and the U.S. dollar, the translation adjustment
will be included in our consolidated changes in shareholders equity and will
not impact the consolidated statement of operations.  We do not expect our exposure to these fluctuations to be
material.

Corporate Tax Rate

Israeli
companies are generally subject to income tax at the corporate tax rate of
36%.  As of December 31, 2003, our net
operating loss carry-forwards for Israeli tax purposes amounted to approximately
$31.0 million.  Under Israeli law, net
operating losses can be carried forward indefinitely and offset against certain
future taxable income.  Since we have
incurred tax losses through December 31, 2003, we have not yet utilized the tax
benefits for which we are eligible under the Approved Enterprise status.  $4.5 million of our investment programs in
buildings, equipment and production facilities have been granted Approved
Enterprise status and we are, therefore, eligible for a tax exemption under the
Law for the Encouragement of Capital Investments, 1959.  All of our operating income and the
operating income of EasyPark generated in Israel is derived from Approved
Enterprise programs.  Subject to
compliance with applicable requirements, the portion of our income derived from
the Approved Enterprise programs is tax-exempt for a period of the earliest
of (1) ten years commencing in the first year in which it generates taxable
income, (2) 14 years from the date of approval or (3) 12 years from the date of
beginning of production.  If we do not
comply with these requirements, the tax benefits may be cancelled and we may be
required to refund the amount of benefits received, in whole or in part, with
the addition of linkage differences to the Israeli consumer price index and
interest.  As of the date of this annual
report,we believe that we are in compliance with these conditions.  The authorization under the Encouragement of
Capital Investments Law, 1959 to approve such Approved Enterprise programs shall
terminate in December 2003 and therefore there is a doubt regarding obtaining
new benefits.1  There can be
no assurance that such tax benefits will be continued in the future at their
current levels or otherwise.

|
|
|

39

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In
July 2002, the Israeli Parliament approved a law enacting extensive changes to
Israels tax law generally effective January 1, 2003, which did not affect our
effective tax rate.

Government of Israel Support Programs

We
participate in programs offered by the Office of the Chief Scientist of the
Ministry of Industry and Trade that support research and development
activities.  We received and obtained
grants of $599,000 in 2001, $1.1 million in 2002 and $853,000 million in 2003 from
the Office of the Chief Scientist with respect to our e-purse application.  Under the terms of these grants, a royalty
of 3% to 5% of the sales of this product must be paid to the Office of the
Chief Scientist, beginning with the commencement of sales of products developed
with grant funds and ending when the dollar value of the grant is repaid.

Royalties
payable with respect to grants received under programs approved after January
1, 1999, however, will be subject to interest on the dollar-linked value of the
total grants received at an annual rate of LIBOR applicable to dollar
deposits.  As of December 31, 2003, we
have received a total of $5.0 million from the Office of the Chief Scientist
net of royalties paid to it (or accrued for). 
The terms of Israeli government participation also require that the
manufacturing of products developed with government grants be performed in
Israel, unless the Office of the Chief Scientist has granted special
approval.  If the Office of the Chief
Scientist consents to the manufacture of the products outside Israel, we may be
required to pay increased royalties, ranging from 120% to 300% of the amount of
the Office of the Chief Scientist grant, depending on the percentage of foreign
manufacture.  These restrictions
continue to apply even after we have paid the full amount of royalties payable
in respect of the grants.  Based upon
the aggregate grants received to date, we expect that we will continue to pay
royalties to the Office of the Chief Scientist to the extent of our sales of
our products and related services for the foreseeable future.  Separate Office of the Chief Scientist
consent is required to transfer to third parties technologies developed through
projects in which the government participates. 
These restrictions do not apply to exports from Israel of products
developed with these technologies.

C.      RESEARCH AND DEVELOPMENT, PATENTS AND LICENSES, ETC.

Discussed
above in Item 5.  A.  Overview.

D.      TREND INFORMATION

Discussed
above in Item 5.  A.  Overview.

E.      OFF BALANCE SHEET
ARRANGEMENTS

In
1999, the Company entered into an interest rate SWAP (IRS) agreement on the
amount of Euro 1,000 thousand. Under the terms of the IRS, the Company receives
variable interest payments on the Eurobor rate, and makes fixed rate payments
at an annual rate of 4.55%. The IRS expired in January 2004. The fair value of
the IRS agreement as of December 31, 2003 is a 
loss of $14 thousands.

F.      TABULAR DISCLOSURE
OF CONTRACTUAL OBLIGATIONS

At
December 31, 2003, we and our subsidiaries have contractual obligations which
are expected to affect our consolidated cash flow in future periods as follows:

|                            |  | 2004 |     | 2005 |   | 2006  |  | 2007 |     | 2008 and
  thereafter |   | Total | 
|--------------------------- |  | ---- | --- | ---- | - | ----- |  | ---- | --- | --------------------- | - | ----- | 
|                            |  |      |     |      |   |       |  |      |     |                       |   |       | 
|                            |  |      |     |      |   |       |  |      |     |                       |   |       | 
|Capital lease
  obligations |  | $    | 234 |      | $ | 234   |  | $    |    |                       | $ |      | 
|Loans                       |  | $    | 564 |      | $ | 1,202 |  | $    | 825 |                       | $ | 407   | 
|                            |  |      |     |      |   |       |  |      |     |                       |   |       | 
|Total                       |  | $    | 798 |      | $ | 1,436 |  | $    | 825 |                       | $ | 407   | 

40

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We
shall also pay royalties to the Office of the Chief Scientist as discussed
above in item 5B. Liquidity and Capital Resources..

For
an additional information on our contractual obligations as of December 31,
2003, under long-term bank loans and operating leases, see Notes 10 and 13 to
our consolidated financial statements. 
For a description of liens on our assets see Note 13C to our
consolidated financial statements.

ITEM
6.            DIRECTORS,
SENIOR MANAGEMENT AND EMPLOYEES

A.      DIRECTORS
AND SENIOR MANAGEMENT

Management

The
following table sets forth certain information concerning our current directors
and executive officers, including officers of certain of our subsidiaries:

|Name                        |  | Age |  | Position                                                                                                      
|--------------------------- |  | --- |  | --------------------------------------------------------------------------------------------------------------
|                            |  |     |  |                                                                                                               
|                            |  |     |  |                                                                                                               
|Oded Bashan (1)             |  | 57  |  | President, Chief Executive Officer, Chairman and
  Director                                                   
|Ronnie Gilboa               |  | 47  |  | Vice PresidentProjects and Director                                                                          
|Guy Shafran                 |  | 31  |  | Chief Financial Officer                                                                                       
|Moshe Aduk                  |  | 47  |  | Vice PresidentGasoline Management System                                                                     
|Nehemya Itay                |  | 54  |  | Vice PresidentHardware Engineering                                                                           
|Ohad Bashan                 |  | 32  |  | Head of Global Marketing and Strategy Development; 
  President and Chief Executive Officer, OTI America, Inc.
|Shulamith Shiffer (1)(2)(3) |  | 58  |  | Director                                                                                                      
|Felix Goedhart (2)(3)       |  | 40  |  | Director                                                                                                      
|Raanan Ellran (1)(2)(3)     |  | 54  |  | Director                                                                                                      
|Eliezr Manor (2)(3)         |  | 56  |  | Director                                                                                                      
|Liora Katzenstein (2)(3)    |  | 48  |  | Director                                                                                                      
|Eli Akavya (2)(3)           |  | 56  |  | Director                                                                                                      
|                            |  |     |  |                                                                                                               

---

|(1) | Compensation committee member
|--- | -----------------------------
|(2) | Audit committee member       
|(3) | External director            

Oded
Bashanco-founded the Company in 1990 and has continued to
serve as our President, Chief Executive Officer and Chairman since that time.
Prior to founding us, he served as the president of Electo-Galil, an Israeli
manufacturer of radio frequency identification cards, from 1984 to 1990. Mr.
Bashan is Chairman of OTI America, Inc., OTI Africa Ltd., SoftChip Technologies
(3000) Ltd., Easy Park Ltd. and Easy Park Israel Ltd. and a director of e-Smart
System Inc. and Z.H.R. Industrial Park Company Ltd. In 1997, Mr. Bashan was
awarded the Leading Businessman Award in Management, Business and Economics by
the Israeli Institute of Public Opinion. He is currently a member of the
trustee committee of the Tel-Chai College and a member of the consulting
committee for the Executive MBA program at Bar Ilan University. Mr. Bashan
holds both a B.A. and an M.A. in economics and business management from the
Hebrew University of Jerusalem.

Ronnie
Gilboaco-founded the Company in 1990 and has continued to
serve as a director since that time. From 1990 to the end of 2001 he served as
Vice President R&D and since that date serves as our Vice
President-Projects. He serves on the board of directors of OTI America, Inc.,
e-Smart System Inc., OTI Africa Ltd., Easy Park Ltd., Easy Park Israel Ltd. and
Softchip Technologies (3000) Ltd. Prior to founding us, Mr. Gilboa was the
manager of research and development at Electo-Galil, an Israeli manufacturer of
radio frequency-based identification cards, from 1984 to 1990. Mr. Gilboa holds
a B.Sc. in electrical engineering from The Technion (Israeli Institute of
Technology).

41

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Guy
Shafranserves as our Chief Financial Officer and has served
as a director of Easy Park Ltd. since June 2000 and as a director of Easy Park
(Israel) Ltd. since March, 2002. Prior to joining us, Mr. Shafran was chief
financial officer at the Israel Cold Storage and Supply Company Ltd., an
Israeli public company engaged in the distribution of soft drinks and cold
storage, from June 1996 to March 2000. From July 1995 to February 1996, Mr.
Shafran was assistant to the chairman of the Baran Group Ltd., an Israeli
engineering company. Mr. Shafran holds a B.A. in economics with a
specialization in business administration from Ben Gurion University, Beer
Sheba.

Moshe
Adukserves as our Vice PresidentGasoline Management System
having served in that position since July 1995. From 1990 to July 1995, he was
employed by us as a research and development engineer. He served as a director
from 1995 to July 1999. Prior to joining us, Mr. Aduk was a hardware and
software development engineer at Electo-Galil, an Israeli manufacturer of radio
frequency-based identification cards, from 1985 to 1990. From 1984 to 1985, he
was employed as a technical support engineer at Motorola Israel. Mr. Aduk holds
a B.Sc. in electrical engineering from The Technion (Israeli Institute of
Technology).

Nehemya
Itayserves as our Vice PresidentHardware Engineering,
having served in that position since July 1995. From 1990 to July 1995, he was
employed by us as a research and development engineer. He served as a director
from 1991 to July 1999. Mr. Itay is a member of the Joint Task Committee of the
International Standards Organisation on standards for contactless smart cards.
Prior to joining us, Mr. Itay was a hardware development engineer at
Electo-Galil, an Israeli manufacturer of radio frequency-based identification
cards, from 1986 to 1990. From 1982 to 1985, he was an hardware electronic
engineer at Elscint, an Israeli technology company. Mr. Itay holds a B.Sc. in electrical
engineering from The Technion (Israeli Institute of Technology) and an M.A. in
electronics from Drexel University, Philadelphia.

Ohad
Bashanserves as our Head of Global Marketing and Strategy
Development, having served in that position since June 2000 and as President,
Chief Executive Officer and a director of OTI America, Inc., since August 1998.
From 1996 to August 1998, he was our business development manager. Mr. Bashan
holds a B.A. in business from the College of Business Management, Tel Aviv,
with specializations in marketing and finance, and an M.B.A. from Pepperdine
University, California.  Ohad Bashan is the son of Oded Bashan.

Shulamith
Shifferserves as a director, having served in that position
since May 2000. Ms. Shiffer is a Judge-Vice President of the disciplinary court
of the Israeli Bar Association in the district of Jerusalem and serves as Vice
Chairman of the Israeli Bar Association tax committee. Ms. Shiffer has been a
practicing lawyer and member of the Israel Bar Association since 1968 and has
headed a private law office with offices in Jerusalem, Tel Aviv and Zichron
Yaakov, since that time. From 1970 to 1985, Ms. Shiffer was legal adviser to
the district of Jerusalem and the Department of Customs and V.A.T. Ms. Shiffer
holds an LL.B. and an LL.M., both from the Hebrew University of Jerusalem.

Felix
Goedhartserves as a director, having served in that position
since August 1999. He has served as chief executive officer of Equitrust AG,
formerly Pre IPO AG of Hamburg, Germany since June 1999. Prior to this position
he served as a member of the Management Board of Premiere Medien GmbH & Co.
KG, the German Pay-TV station. From 1995 to 1996, he was head of digital
projects at Kirch Group, Munich. From 1991 to 1995, he was a senior associate
at Booz-Allen & Hamilton, management consultants. Mr. Goedhart holds a
Lic.Dec.HSG from Hochschule St. Gallen, Switzerland, and an M.B.A. from the
University of Chicago.

Raanan
Ellranserves as a director, having served in that position
since July 1999. He serves as a director and as the Chairman of the Finance
Committee of Rafael Ltd., as a director and the Chairman of the Investments
Committee of Dikla Mutual Funds Management Company (sister company to the First
International Bank), F.I.B.I Holding Company Ltd., and as a director of AAI
Ltd., an Israeli internet software designer. From 1993 to 1998, he was a
director of First International Bank of Israel, Provident and Pension Funds. He
served as the General Manager of Assuta Medical Centers from March 1997 until
September 2002. From 1995 to February 1997, he served as the General Manager of
Raton Import Ltd. From 1994 to 1995, he was the General Manager of Ace Hardware
(Israel) Ltd., Mr. Elran holds a B.A. in economic and business administration
and a M.A. in finance from Bar llan University.

Eliezer
Manor serves as a director, having served in that position
since July 2003. He serves as a managing partner and co-founder of Global
Catalyst Partners (GCP) VC Fund, a managing partner and co-founder of Global
Catalyst Partners II VC Fund, as a director of Trans Balkan Fund (a private
equity fund active in Romania, Bulgaria and Croatia), a director on several
portfolio companies of GCP, a member of the Executive Steering Committee of
China VC Research Institute and as a lecturer and consultant in Israel and
abroad on Hi-Tech and Venture Capital. Mr. Manor holds a B.Sc. Physics from the
Tel Aviv University and a M.Sc. Applied Physics from the Weizmann Institute of
Science, Israel.

42

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Prof.
Liora Katzenstein serves as a director, having served in that
position since July 2003. Prof. Katzenstein serves as the President of ISEMI 
the Institute for the Study of Entrepreneurship Management and Innovation,
Managing Director of the Consulta Associates, an international business
development consulting firm, a partner and Joint Managing Director of Palafric
Investment, a real estate investment company, an owner and President of Forum
International, an Israeli business development consulting firm, and a program
manager of MIL  Israel Management Center. Prof. Katzenstein serves as a
director in Amanet Ltd., Palafric Investment Ltd. and in several companies of
the RAD group which are traded on Nasdaq. Prof. Katzenstein holds a License es
Sciences Politiques from the Graduate Institute of International Studies,
University of Geneva, Switzerland, a MALD in Law and Diplomacy from the
Fletcher School of Law and Diplomacy, Tufts University, Boston, MA and a Ph.D.
in International Economics from the Graduate Institute of International
Studies, University of Geneva, Switzerland.

Eli
Akavia, CPA.serves as a director since December 2003. Mr.
Akavia is an independent consultant. Until recently, Mr. Akavia worked for
Luoboshitz Kasierer, an Israeli auditing firm (formerly a member firm of Arthur
Andersen and currently merged with Ernst & Young, Israel) for 30 years,
first as an employee and later as a senior partner. Mr. Akavias roles at
Luboshitz Kasierer included: Head of Audit Department, Head of Hi Tech Division
and Partner in charge of the Firm Professional Standards Group. He specialized
in hi-tech companies and accumulated invaluable experience in US GAAP and SEC
Rules. Mr. Akavia has participated in a large number of companies initial
public offerings in the United States.

B.      COMPENSATION

Executive
Compensation

The
aggregate compensation paid by us and our subsidiaries to our executive
directors and executive officers listed above under Management, in the year
ended December 31, 2003 was $804,183. 
This amount includes approximately $13,978 set aside or accrued to
provide pension, severance, retirement or similar benefits or expenses, but
does not include business travel, relocation, professional and business
association dues and expenses reimbursed to officers, and other benefits
commonly reimbursed or paid by companies in Israel.

Non-executive
directors are reimbursed for their expenses for each board meeting attended and
in addition receive compensation for their service on the board.  Our executive directors do not receive
compensation for their service on the board of directors or any committee of
the board of directors.  The aggregate
amount paid by us and our subsidiaries to our non-executive directors listed
above under Management, in the year ended December 31, 2003 was $34,000.

See
Item 6.  E.  Share Ownership for information on
beneficial ownership of our shares by our directors and executive officers.  We have no outstanding loans to any of our
directors or executive officers.

Employment
Agreements

We
maintain written employment and related agreements with all of our office
holders.  These agreements provide for
monthly salaries and contributions by us to executive insurance and vocational
studies funds.  The employment
agreements of certain of our office holders further provide that we may give
the employee an annual bonus in accordance with targets to be determined by the
compensation committee by December 31 of each calendar year in respect of the
following year.  In determining the
amount of the bonus, the compensation committee must relate it to our revenues
or profits, as applicable to the employee. 
We approved bonus plan principles for our senior management on a
shareholders general meeting held on January 31, 2003.  If justifiable in light of our quarterly
financial results, we may make advances on bonus payments pursuant to a
resolution of our board of directors. 
All of our office holders employment and related agreements contain
provisions regarding noncompetition, confidentiality of information and
assignment of inventions.  The
enforceability of covenants not to compete in Israel is unclear.

Agreement
with Oded Bashan.  The
employment agreement of Oded Bashan, dated July 1, 1999, provides for a
five-year term ending on June 30, 2004. 
The agreement was extended at the shareholders meeting that took place
on November 14, 2003 for an additional five-year period commencing July 1,
2004.  Mr. Bashan may terminate his
employment, and we may terminate his employment for reasonable and justifiable
cause, in either case on six months notice. 
In the event of termination, Mr. Bashan is entitled to receive severance
pay equal to twice the statutory rate of one months current salary multiplied
by the number of years of employment calculated as of July 1, 1999.  In the event we terminate his employment
prior to June 30, 2004, unless the termination occurred as a result of
circumstances depriving him of the right to severance pay at law or as a result
of a breach of fiduciary duty or a material breach of confidentiality or
noncompetition undertakings, we are required to continue paying Mr. Bashan a
monthly salary, including benefits but excluding bonuses, until June 30, 2004,
and in any event, for a period that shall not be less than six months following
the notice period described above.  In
addition to the salary, contributions and bonus described above, Mr. Bashan was
entitled under his contract of employment to an additional bonus of $15,000 for
every one percent increase in our average share price quoted for the last two
months of any year over the average share price quoted for the last two months
of the preceding year.  This arrangement
was terminated in consideration for a one-time award to Mr. Bashan of an option
to purchase 25,000 of our shares at an exercise price of EUR60.00 per share.

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Agreement
with Ronnie Gilboa. 
The employment agreement of Ronnie Gilboa, dated July 1, 1999, provides
for a five-year term ending on June 30, 2004, which is to be extended
automatically (without limitation) unless terminated as described below.  Mr. Gilboa may terminate his employment, and
we may terminate his employment for reasonable and justifiable cause, in either
case on six months notice.  In the
event of termination, Mr. Gilboa is entitled to receive severance pay equal to
twice the statutory rate of one months current salary multiplied by the number
of years of employment calculated as of July 1, 1999.

Agreement
with Guy Shafran.  The
employment agreement of Guy Shafran, dated June 4, 2000, provides for a
five-year term ending on June 3, 2005, which is to be extended automatically
unless terminated.  Mr. Shafran may
terminate his employment on three months notice, and we may terminate his
employment for reasonable or justifiable cause on three months notice.

Agreements
with Moshe Aduk and Nehemya Itay. The employment agreements
of Moshe Aduk and Nehemya Itay, each dated July 1, 1999, provide for a
five-year term ending on June 30, 2004, which is to be extended automatically
unless terminated as described below. 
These individuals may terminate their employment, and we may terminate
their employment for reasonable and justifiable cause, in either case on six
months notice.  In the event of
termination, these individuals are entitled to receive severance pay equal to
twice the statutory rate of one months current salary multiplied by the number
of years of employment calculated as of July 1, 1999.  In the event we terminate the employment of either Mr. Aduk or
Mr. Itay, unless the termination occurred as a result of circumstances
depriving them of the right to severance pay at law or as a result of a breach
of fiduciary duty or a material breach of his confidentiality or noncompetition
undertakings, we are required to continue paying each of them a monthly salary
for three months following the notice period described above.

Agreement
with Ohad Bashan.  The
employment agreement of Ohad Bashan with OTI America, Inc., dated August 23,
1998, provides for a two-year term which has been extended until August 22,
2002 and was further extended for three years commencing on August 24,
2002.  On March 1, 2003, we signed a
supplemental agreement with Ohad Bashan, which was approved at our General
Meeting on January 31, 2003, and amended the August 24, 2002 employment
agreement.  Mr. Bashan may terminate his
employment on six months notice and we may terminate his employment only for
cause.  In the event we terminate his
employment, Mr. Bashan shall be entitled to four months adjustment with full
terms and benefits.  In the event that
we terminate Mr. Bashans employment during school year of his children, Mr. Bashan
shall be entitled to full compensation until the end of the school year,
provided, however, that the school year started on or before the termination
date.  In addition to his monthly
salary, as long as Mr. Bashan serves in the U.S., he shall be entitled to
receive a special annual bonus of 1% of the OTI America Inc. operating
profit.  In addition, Mr. Bashan is
further entitled to receive for each 12-month period of his employment an
option to purchase 20,000 of our ordinary shares, 10,000 of them at an exercise
price of $6.5 per share and the remaining 10,000 at an exercise price of NIS
0.1  per share, which will vest at the following dates:  August 31, 2003, August 31, 2004 and August
31, 2005.  In addition, OTI America has
the right to assign Mr. Bashans employment agreement to us, and require Mr.
Bashan to relocate to Israel.

C.      BOARD
PRACTICES

Election
of Directors; Appointment of Officers

Our
current board of directors consists of eight directors.  Under our articles of association, our board
of directors may not consist at any time of more than nine members.  A majority of these directors must be
non-executive directors, who are directors that are neither office holders nor
our employees.  Directors are appointed,
removed or replaced, by a majority vote of our shareholders present in person
or by proxy at a general meeting of shareholders.  Each group of shareholders holding in aggregate 20% or more of
our outstanding share capital is entitled to submit a written list of
candidates for appointment as directors at a general meeting.  Shareholders may only vote for a list in its
entirety unless shareholders present at the meeting holding at least 20% of our
outstanding share capital require that the vote be for individual directors.

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Once
elected at a shareholders meeting, our directors, except our external
directors, hold office until the first general meeting of shareholders held at
least twenty-four months after their election. 
Incumbent directors may be reelected at that meeting.  Prior to December 31, 2004, however, our
founders, Oded Bashan and Ronnie Gilboa, may not be replaced or removed without
the affirmative vote of 75% of our shareholders entitled to vote and voting, in
person or by proxy, at a general shareholders meeting.  Unless contrary to the law, a director may
be elected for consecutive terms.

Under
the new Israeli Companies Law, which took effect on February 1, 2000 (the
Companies Law), the chief executive officer of a public company may not serve
as a chairman of the board of directors unless authorized by a general meeting
of the shareholders and then only for a period of time that does not exceed
three years.  On July 11, 2003, our
shareholders authorized our chairman, Oded Bashan, to act as our CEO for an
additional three-year period ending May 25, 2006.

Our
board of directors appoints our chief executive officer.  Each of our executive officers serves at the
discretion of the board of directors, subject to the terms of any employment
agreement, and holds office until his or her successor is elected or until his
or her earlier resignation or removal. 
Except for Ohad Bashan, our Head of Global Marketing and Strategy
Development, and President and Chief Executive Officer of OTI America, Inc.,
who is the son of Oded Bashan, our co-founder and chairman of our board of
directors, none of our directors or executive officers has any family
relationship with any other director or executive officer.

External
Directors

The
Israeli Companies Law requires Israeli companies with shares that have been
offered to the public in or outside of Israel to appoint two external
directors.  No person may be appointed
as an external director of a company if the person, or the persons relative,
partner, employer or any entity under the persons control, has, or had within
the two years preceding the persons appointment as an external director, any
affiliation with the company or with any entity controlling, controlled by or
under common control with the company. 
The term affiliation includes control, an employment relationship, a
business or professional relationship maintained on a regular basis, or service
as an office holder, excluding service as a director for a period of not more
than three-months during which the company first offered its shares to the
public.  The term office holder is
defined as a director, general manager, chief business manager, deputy general
manager, vice general manager, executive vice president, vice president, other
manager directly subordinate to the general manager or any other person
assuming the responsibilities of any of the foregoing positions, without regard
to such persons title.  Each person
listed in the table above is an office holder. 
The external directors were not office holders until elected.

In
addition, no person may serve as an external director if that persons other
positions or business activities create, or may create, a conflict of interest
with the persons service as an external director or may otherwise interfere
with the persons ability to serve as an external director.  If, at the time an external director is
appointed, all current members of the board of directors are of the same gender,
then that external director must be of the other gender.  Regulations promulgated under the Companies
Law provide that the requirement of Israeli residency does not apply to the
external directors of companies whose shares are listed for trading outside of
Israel.

| | External directors are elected by a majority vote at
  a shareholders meeting at which either the majority of shares voted at the
  meeting, including at least one-third of the shares held by non-controlling
  shareholders voted at the meeting, vote in favor of the election of the external
  director; or
|- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | the total number of shares held by non-controlling
  shareholders voted against the election of the external director does not
  exceed one percent of the aggregate voting rights in the company.                                                                                                                

The
initial term of an external director is three years and may be extended for one
additional three year period.  External
directors may only be removed by the same percentage of shareholders as is
required for their election, or by a court, and then only if the external
directors cease to meet the statutory qualifications for their appointment or
if they violate their duty of loyalty to the company.  If an external directorship becomes vacant, our board of
directors is required under the Companies Law to call a shareholders meeting immediately
to appoint a new external director.

A
company may not appoint an external director as an office holder and may not
employ or receive services from an external director, directly or indirectly,
including through a corporation controlled by that person, for two years
following the termination of his or her service as an external director of that
company.

Each
committee of our board of directors must include at least one external director
and the audit committee must include all of the external directors.  An external director is entitled to
compensation as provided in regulations adopted under the Companies Law and is
otherwise prohibited from receiving any other compensation, directly or
indirectly, in connection with services provided as an external director.

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In
addition, the audit committee of our board of directors must include at least
three independent directors within the meaning of the Nasdaq Small Cap Market
listing requirements.  Our directors,
Shulamith Shiffer, Raanan Ellran, Eliezer Manor, Prof. Liora Katenstein and Eli
Akavya, CPA., qualify as external directors under the Companies Law and
independent directors under the Nasdaq Small Cap Market listing
requirements.  Our director, Felix
Goedhart, qualifies as an independent director under the Nasdaq Small Cap
Market listing requirements.

Alternate
Directors

Under
our articles of association, each of our directors, other than our external
directors, may appoint, by written notice to us, any person to serve as an
alternate director.  Under the Companies
Law, a current director cannot be appointed as an alternate director nor can a
currently-serving alternate director be appointed as an alternate director.  An alternate director has all the rights and
duties of the director appointing him, unless the appointment of the alternate
provides otherwise, and the right to remuneration.  The alternate director may not act at any meeting at which the
appointing director is present.  Unless
the time period or scope of the appointment is limited by the appointing
director, the appointment is effective for all purposes, but expires upon the
expiration of the appointing directors term. 
Currently, none of our directors has appointed any alternate directors.

Exculpation,
Indemnification and Insurance of Office Holders

Under
the Companies Law, an Israeli company may only exculpate an office holder in
advance, in whole or in part, for breach of duty of care and only if a
provision authorizing such exculpation is included in its articles of
association.  Our articles of
association include such a provision.  A
company may not exculpate an office holder for breach of duty of loyalty.  However, the company may approve an act
performed in breach of the duty of loyalty of an office holder provided that
the office holder acted in good faith, the act or its approval does not harm
the company, and the office holder discloses the nature of his or her personal
interest in the act and all material facts and documents a reasonable time
before discussion of the approval.

A
company may indemnify an office holder in respect of certain liabilities either
in advance of an event or following an event provided a provision authorizing
such indemnification is inserted in its articles of association.  Advance indemnification of an office holder
must be limited to foreseeable liabilities and reasonable amounts determined by
the board of directors.  A company may
indemnify an office holder against the following liabilities incurred for acts
performed as an office holder:

| | a financial liability imposed on him in favor of
  another person pursuant to a judgment, settlement or arbitrators award
  approved by court; and                                                                                                                                                                                                                                           
|- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | reasonable litigation expenses, including attorneys
  fees, incurred by the office holder or imposed by a court in proceedings
  instituted against him by the company, on its behalf or by a third party, in
  connection with criminal proceedings in which the officer holder was
  acquitted or as a result of a conviction for a crime that does not require
  proof of criminal intent.

A
company may insure an office holder against the following liabilities incurred
for acts performed as an office holder:

| | a breach of duty of loyalty to the company, to the
  extent that the office holder acted in good faith and had a reasonable basis
  to believe that the act would not prejudice the company;
|- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | a breach of duty of care to the company or to a
  third party; and                                                                                                                          
| | a financial liability imposed on the office holder
  in favor of a third party.                                                                                                             

An Israeli company may
not indemnify or insure an office holder against any of the following:

| | a breach of duty of loyalty, except to the extent
  that the office holder acted in good faith and had a reasonable basis to
  believe that the act would not prejudice the company;
|- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | a breach of duty of care committed intentionally or
  recklessly;                                                                                                                   
| | an act or omission committed with intent to derive
  illegal personal benefit; or                                                                                                   
| | a fine levied against the office holder.                                                                                                                                            

Under
the Companies Law, indemnification and insurance of office holders must be
approved by our audit committee and our board of directors and, in specified
circumstances, by our shareholders.

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Our
articles of association allow us to indemnify and insure our office holders to
the fullest extent permitted by the Companies Law.  Our office holders are currently covered by a directors and
officers liability insurance policy with an aggregate claim limit of $5
million.  As of the date of this annual
report, no claims for directors and officers liability insurance have been
filed under this policy.

Our
U.S. subsidiary has also entered into indemnification agreements with certain
of its key employees.  These agreements
provide, independent of the indemnification these individuals are entitled to
by law and under the provisions of the subsidiarys charter, indemnification
for certain acts while employed by the subsidiary.  These indemnification agreements contain exclusions, such as
limiting indemnification that would be unlawful or that is covered by other
liability insurance.  Moreover,
employees are not indemnified against liability to the extent that the employee
gained a personal profit to which he or she is not legally entitled, including
proceeds obtained from the illegal trading of our equity securities.  The performance of these agreements is
guaranteed by us as parent of the U.S. subsidiary, to the extent permitted by
Israeli law.

Compensation
Committee

Our
board of directors established our compensation committee in July 1999.  The duties of the compensation committee are
to review the terms of employment of our senior management, to review and
recommend to our board of directors the issuance and the allocation of options
under our share option plans and to perform any other task delegated by our
board of directors.

The
current members of our compensation committee are Oded Bashan, Shulamith
Shiffer, Raanan Ellran and Eli Akavya, CPA.

Audit
Committee

Our
board of directors established our audit committee in July 1999.  The Companies Law requires public companies
to appoint an audit committee consisting of at least three directors, including
all the external directors.  The audit
committees responsibilities are governed by a written charter.  The responsibilities of the audit committee
include identifying irregularities in the management of our business in
consultation with our independent accountants and the internal auditor and suggesting
appropriate responses.  The audit
committees responsibilities also include approving related party transactions
as required by law.  Neither the
chairman of the board of directors, nor any director employed by or otherwise
providing services on a regular basis to us, a controlling shareholder, or
relative of a controlling shareholder may be a member of the audit
committee.  The audit committee may not
approve an action or a transaction with a controlling shareholder, or with an
office holder, unless at least two external directors are serving on the audit
committee at the time of the approval, one of whom is present at the meeting at
which the approval is granted.  In
addition, pursuant to the listing requirements of the Nasdaq Small Cap Market, we
are required to maintain an audit committee including at least three
independent directors.  In accordance
with the provisions of the Sarbanes-Oxley Act, our Audit Committee is required
to pre-approve all audit and permitted non-audit services provided by our
external auditors.

The
current members of our audit committee are Shulamith Shiffer, Raanan Ellran,
Felix Goedhart, Liora Katzenstein 
Eliezer Manor and Eli Akavya, all of which are independent
directors.  Raanan Ellran is the Audit
Committees financial expert.

Internal
Auditor

Under
the Companies Law, the board of directors must appoint an internal auditor that
is recommended by the audit committee. 
The role of the internal auditor is to examine, among other things,
whether the companys actions comply with the law and orderly business
procedure.  Under the Companies Law, the
internal auditor may not be an office holder or an interested party, as defined
below, or a relative of an office holder or an interested party, and he or she
may not be the companys independent accountant or the independent accountants
representative.  The Companies Law
defines an interested party as a holder of 5% or more of the issued shares or
voting rights of a company, a person or entity who has the right to designate
at least one director or the general manager of the company, and a person who
serves as a director or general manager. 
In August 2000, our audit committee recommended and our board of
directors appointed Brightman Almagor & Co., the Israeli practice of
Deloitte & Touche LLP, as our internal auditors.

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Fiduciary
Duties; Approval of Certain Transactions

The
Companies Law codifies the fiduciary duties that office holders owe to a
company.  An office holders fiduciary
duties consist of a duty of care and a duty of loyalty.  The duty of care requires an office holder
to act with the degree of care with which a reasonable office holder in the
same position would act under the same circumstances.  The duty of care includes using reasonable means to obtain
information as to the advisability of a given action submitted for his or her
approval or performed by virtue of his or her position, as well as all other
information pertaining to such actions.

The
duty of loyalty requires an office holder to act in good faith and for the
benefit of the company, and includes avoiding any conflict of interest between
the office holders other positions or personal affairs and the performance of
his or her position in the company, avoiding any competition with the company, avoiding
exploiting any business opportunity of the company in order to receive a
personal benefit for himself or herself or others, and revealing to the company
any information or documents relating to the companys affairs which come into
the office holders possession as a result of his or her position as an office
holder.

The
Companies Law further 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 must be made promptly and in no event later than the board of
directors meeting at which the transaction is first discussed.  In addition, if the transaction is an
extraordinary transaction, as defined below, the office holder must also
disclose any personal interest held by the office holders spouse, siblings,
parents, grandparents, descendants, spouses descendants and the spouses of any
of the foregoing and by any corporation in which the office holder is a 5% or
greater shareholder, director or general manager or in which he or she has the
right to appoint the general manager or at least one director.  The Companies Law defines an extraordinary
transaction as a transaction that is not in the ordinary course of business,
that is not on market terms, or that is likely to have a material impact on a
companys profitability, assets or liabilities.  In the case of a transaction between the company and an office
holder, or a third party in which an office holder has a personal interest, but
that is not an extraordinary transaction and is not adverse to the companys
interest, once the office holder complies with the above disclosure
requirements only board approval is required unless the articles of association
of the company provide otherwise.  In
the case of an extraordinary transaction between the company and an office
holder, or a third party in which an office holder has a personal interest, in
addition to any approval required by the articles of association, the
transaction must be approved first by the audit committee, then by the board of
directors and, in certain cases, by the shareholders.  A director who has a personal interest in a matter that is considered
at a meeting of the board of directors or the audit committee may in general
not be present at this meeting or vote on this matter.  If a majority of the directors have a
personal interest in an extraordinary transaction, these directors are
permitted to be present and vote on the transaction, but shareholder approval
is also required.

Under
the Companies Law, all arrangements as to compensation of office holders who
are not directors require approval by the board of directors, and undertakings
to indemnify or insure an office holder who is not a director require both
board and audit committee approval.  In
general, arrangements regarding the compensation, indemnification and insurance
of directors require audit committee and shareholder approval in addition to
board approval.

The
Companies Law applies the same disclosure requirements to a controlling party
of a public company that it applies, as described above, to an office
holder.  For these purposes a
controlling party is any person possessing the ability to direct the
activities of the company, including a shareholder which holds 25% or more of
the voting rights of the company if no other shareholder owns more than 50% of
the voting rights in the company, but excluding a person whose power is derived
solely from his or her position on the board of directors or from another
position with the company.  Two or more
shareholders with a personal interest in the approval of the same transaction are
deemed to be joint shareholders.  Extraordinary
transactions with a controlling party or in which a controlling party has a
personal interest, and the engagement and terms of compensation of a
controlling party as an office holder, require the approval of the audit
committee, the board of directors and the shareholders.  Shareholder approval must be by a majority
of shares voted at the meeting, including at least one-third of the shares of
the disinterested shareholders who are present, in person or by proxy, at the
meeting, or, alternatively, the total shareholdings of the disinterested
shareholders who vote against the transaction must not represent more than 1%
of the aggregate voting rights in the company.

Under
the Companies Law, a shareholder has a duty to refrain from abusing his or her
power in the company and to act in good faith in exercising its rights and
performing its obligations to the company and other shareholders, including,
among other things, voting at a general meeting of shareholders on the
following matters:

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| | an amendment to the articles of association;                             
|- | -------------------------------------------------------------------------
| | an increase in the companys authorized share
  capital;                 
| | a merger; and                                                            
| | approval of a related-party transaction requiring
  shareholder approval.

In
addition, any controlling shareholder, any shareholder who knows that its vote
can determine the outcome of a shareholder vote and any shareholder who, under
a companys articles of association, can appoint or prevent the appointment of
an office holder, is under a duty to act with fairness towards the
company.  The Companies Law does not
describe the substance of this duty.

Compensation
Committee Interlocks and Insider Participation

Other
than Oded Bashan, who serves as a member of our compensation committee, none of
the members of our compensation committee or audit committee is currently, or
has ever been at any time since our formation, an officer or employee of our
company.  None of our executive officers
serves as a member of the board of directors or compensation committee of any
entity that has one or more executive officers serving on our compensation
committee.

D.      EMPLOYEES

The breakdown of our
employees, including employees in our subsidiaries, by department, is as
follows:

|                                         |  | Number of employees as of December 31 |    
|---------------------------------------- |  | ------------------------------------- | ---
|                                         |  |                                       |    
|Department                               |  | 2001                                  |    
|                                         |  |                                       |    
|                                         |  |                                       |    
|Sales and marketing                      |  |                                       | 20 
|Research and development and engineering |  |                                       | 68 
|Manufacturing and operations             |  |                                       | 78 
|Customer support                         |  |                                       | 14 
|Management and administration            |  |                                       | 46 
|                                         |  |                                       |    
|                                         |  |                                       |    
|Total                                    |  |                                       | 226

Of
these employees, on December 31, 2003, 85 were based in Israel, 7 in the United
States, 84 in Europe and 22 in South Africa.

Under
applicable law and by order of the Israeli Ministry of Labor and Welfare, we
and our Israeli employees are subject to certain provisions of the collective
bargaining agreements between the Histadrut, the General Federation of Labor in
Israel and the Coordination Bureau of Economic Organizations, including the
Industrialists Association.  These
provisions principally concern cost of living increases, length of the working
day, minimum daily wages for professional employees, contributions to pension
funds, insurance for work-related accidents, procedures for dismissing
employees, determination of severance pay, annual and other vacation, sick pay
and other conditions of employment.  We
provide our employees with benefits and working conditions above the required
minimum and which we believe are competitive with benefits and working
conditions provided by similar companies in Israel.  Our employees are not represented by a labor union.  We have written employment agreements with
substantially all of our employees. 
Competition for qualified personnel in our industry is intense and it
may be difficult to attract qualified personnel to our offices.  We dedicate significant resources to employee
retention and have never experienced work stoppages and believe that our
relations with our employees are good.

E.      SHARE
OWNERSHIP

Except
for Messrs. Oded Bashan, Ronnie Gilboa, Nehemya Itay, Moshe Aduk and Ohad
Bashan, as of December 31, 2003, none of our directors or executive officers
owned more than one percent of the outstanding ordinary shares.  For information as to the share ownership of
Messrs. Oded Bashan, Ronnie Gilboa, Nehemya Itay, Moshe Aduk and Ohad Bashan,
see Item 7.  Major Shareholders and Related Party Transactions.

Share
Option Plans

The
following is a description of the share option plans that we and our
subsidiaries maintain. In addition to the discussion below, please see Notes
14B and 14C to our consolidated financial statements.  Under Israeli law, except for issuances of options to directors,
or their families, share option plans and revisions to these plans are not
subject to shareholder approval.

49

---

---

2001
Share Option Plan

We
established our 2001 Share Option Plan in February 2001.  The plan provides for the grant of options
to our employees, directors and consultants, and those of our subsidiaries and
affiliates.  Upon establishment of the
plan, we reserved 75,000 ordinary shares for issuance.  On February 26, 2002, on July 12, 2002, on
March 28, 2003, on July 16, 2003, on September 2, 2003 and on November 17,
2003, our board of directors adopted certain resolutions with regard to the
2001 Share Option Plan that increased the number of available options under the
plan by a total of 2,675,000 so that the aggregate number of options available
under the plan is now 2,750,000, 500,000 options of which are subject to
shareholders approval or Nasdaq exemption as set forth below.  The increase of the number of available
options under the plan pursuant to the Board of Directors resolutions dated
March 28, 2003, July 16, 2003 and September 2, 2003 were subject to either our
shareholders approval or an exemption granted pursuant to Nasdaq Market Place
Rules that such approval is not required. 
We applied for an exemption in connection with such increases approved
by the board of directors and such exemption has been obtained from Nasdaq due
to differences between the Israeli law and Nasdaq rules.  On November 17, 2003, our board of directors
approved a further increase of 500,000 options subject to either shareholders
approval or additional exemption from Nasdaq. 
We have applied for a Nasdaq exemption on the same grounds as its
previous exemption.  Under this plan, as
of March 31, 2004 103,404 options had been exercised and 2,100,076 are
outstanding (of which 1,567,500 are vested and exercisable).  Of the options that are outstanding, as of
March 31, 2004 2,015,350 are held by our directors and officers listed above
under Item 6.  A.  Directors and Senior Management, and
have a weighted average exercise price of $5.13.

On
February 26, 2002, our board of directors resolved to approve a grant by which,
inter alia, we may pay, during a 12-month period, the salaries of certain of
its employees who agree to participate in the grant, by way of grant of
options.  All such options are to be
held by a trustee, for the benefit of each such employee.  At the direction of and in accordance with
instructions given by an employee who has received options, the trustee shall
exercise such options and sell the shares issued upon such exercise.  The proceeds mentioned above will be
released on a monthly basis by the trustee (net of deductions required by law)
to the maximum extent necessary for payment of such monthly salary to such employee.  We undertook to pay from our own sources any
and all differences between the relevant monthly salary and such proceeds.  On March 28, 2003, our board of directors
approved the extension of the arrangement for an additional period of six
months commencing May 2003 and on October 28, 2003 our board of directors
approved the extension of the arrangement for the employees of InterCard group
for the period commencing November 2003 and ending July 2004.  The principal purpose of this arrangement is
to enable us to use our available cash for other proper corporate purposes,
including payment of sales expenses and research and development costs.

Our
2001 Share Option Plan is administered by our compensation committee which
makes recommendations to our board of directors regarding the grantees of
options and the terms of the grant, including exercise prices, grant dates,
vesting schedules, acceleration of vesting and forfeiture.  Under the Companies Law the allocation of
options is solely within the authority of our board of directors. Under the
plan, the terms and conditions of options are set forth in individual option
agreements with the grantee.

Under
the plan, if the employment of a grantee is terminated for cause, all of his or
her options expire immediately.  A
grantee whose employment is terminated without cause may exercise his or her
vested options within three months of termination.  If the termination is due to the death or disability of the
grantee, the options may be exercised within 18 months of the date of
termination in the case of death and 12 months in the case of disability.

In
accordance with the terms and conditions imposed by Section 102 of the
Israel Income Tax Ordinance, grantees that receive options under the
2001 Share Option Plan (excluding grantees who previously received options
that were incorporated upon the commencement of Amendment No. 132 of the Income
Tax ordinance (the Tax Reform) that was approved on July 24, 2002 and became
effective on January 1, 2003, and those who are not employees or office holders
and those who are our controlling shareholders) are afforded certain tax
benefits.  We elected the benefits
available under the capital gains alternative.  There are various conditions that must be met in order to qualify
for these benefits, including registration of the options in the name of a
trustee (the Trustee) for each of the employees who is granted options.  Each option, and any ordinary shares acquired
upon the exercise of the option, must be held by the Trustee for a period
commencing on the date of grant and ending no earlier than 24 months after the
end of the tax year in which the option was granted and deposited in trust with
the Trustee.  In the capital gains track
a company may not recognize expenses pertaining to the options for tax
purposes.  We also granted our employees
options pursuant to Section 102(c) of the Ordinance that are not held in trust
by a trustee, which while enabling the immediate exercising and selling of options
granted under the 2001 Share Option Plan, will be subject to the marginal tax
rate up to 50% plus payments to the National Insurance Institute and health tax
on the date of the sale of the shares or options.  As of January 1, 2003, Section 3(i) of the Ordinance was
partially replaced by Section 102(c) and no longer applies to allocations of
options to employees (including directors and office holders).  Section 3(i) still applies and imposes taxes
on those who are not employees (such as consultants and service providers) and
to employees who are considered controlling shareholders.

50

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1995
Share Option Plan

We
established our 1995 Share Option Plan in December 1995.  The plan provides for the grant of options
to our employees.  Our 1995 Share Option
Plan has been superseded by our 2001 Share Option Plan and we have ceased to
grant options under our 1995 Share Option Plan.  On July 12, 2002 our board of directors adopted certain
resolutions with regard to the 1995 Share Option Plan that increased the number
of available options under the plan by 30,300 so that the aggregate number of
options available under this plan is 130,300. 
Under this plan, as of March 31, 2004, no options to purchase] shares
had been exercised and 300,000 were outstanding of which 288,000 are vested and
exercisable.  Of the options that are
outstanding, March 31, 2004, 300,000 are held by our directors and officers
listed above under Item 6.  A.  Directors and Senior
Management, and have a weighted average exercise price of $6.62.

Generally,
options issued under the plan vest over a period of three to five years in
equal annual installments commencing immediately following the grant date.  Under the plan, if the employment of a
grantee is terminated for cause, all of his or her options expire
immediately.  Generally, a grantee whose
employment is terminated without cause after a trial period of no less than six
months may exercise his or her vested options. 
If the termination is due to the death of the grantee, the options may
be exercised within twelve months of the date of termination.  In the event of disability or retirement of
the grantee, the compensation committee determines the treatment of options
held by the grantee.

Our
1995 Share Option Plan is subject to the same provisions of the Israeli Income
Tax Ordinance as our 2001 Share Option Plan.

2001
Employee Share Purchase Plan

In
June 2001, we approved the establishment of an employee share purchase
plan.  No shares have been issued under
the plan.  Under the plan, we have
reserved 67,500 ordinary shares for purchase by our employees and those of our
subsidiaries who have been employed for at least six months.  Eligible employees may purchase our ordinary
shares at 85% of the lesser of the fair market value of our ordinary shares of
the first day of the applicable offering period or the first day of the
applicable offering period.  As of March
31, 2004, no ordinary shares are available for sale under the 2001 Employee
Share Purchase Plan.

ITEM
7            MAJOR
SHAREHOLDERS AND RELATED PARTY TRANSACTIONS

A.      MAJOR
SHAREHOLDERS

The
following table provides summary information regarding the beneficial ownership
by the following persons of our outstanding ordinary shares as of  March 31, 2004:

| | each person or entity known to beneficially own more
  than 5% of our ordinary shares;
|- | --------------------------------------------------------------------------------------
| | each of our directors individually;                                                   
| | each of our executive officers individually; and                                      
| | all of our executive officers and directors as a
  group.                             

Beneficial
ownership of shares is determined under the rules of the Securities and
Exchange Commission and generally includes any shares over which a person
exercises sole or shared voting or investment power.  To our knowledge and except as indicated by footnote, each person
identified in the table below possesses sole voting and investment power with
respect to all ordinary shares held by them.

51

---

---

The
table also includes the number of shares underlying options that are
exercisable within 60 days of the date of this prospectus.  Ordinary shares subject to these options are
deemed to be outstanding for the purpose of computing the ownership percentage
of the person holding these options, but are not deemed to be outstanding for
the purpose of computing the ownership percentage of any other person.  The table reflects [        ]
ordinary shares outstanding as of March 31, 2004.  Unless otherwise indicated below, the address of each director,
executive officer or listed shareholder is care of On Track Innovations Ltd.,
Z.H.R. Industrial Zone, P.O. Box 32, Rosh Pina, Israel 12000.

|                                                  |  | Shares beneficially owned | 
|------------------------------------------------- |  | ------------------------- | 
|Name
  of beneficial owner                        |  | Number                    | 
|                                                  |  |                           | 
|Oded Bashan (1)                                   |  | 2,603,270                 | 
|Ronnie Gilboa (2)                                 |  | 239,060                   | 
|Guy Shafran (3)                                   |  | 149,000                   | 
|Moshe Aduk (4)                                    |  | 147,373                   | 
|Nehemya Itay (5)                                  |  | 192,381                   | 
|Ohad Bashan (6)                                   |  | 349,345                   | 
|Shulamith Shiffer (7)                             |  | 29,700                    | 
|Felix Goedhart (8)                                |  | 39,700                    | 
|Raanan Ellran (9)                                 |  | 29,700                    | 
|Eliezer Manor                                     |  | 28,500                    | 
|Liora Katzenstein                                 |  | 28,500                    | 
|Eli Akavya                                        |  | 15,000                    | 
|All
  executive officers and directors as a group |  | 3,851,529                 | 
|Herald Investment Trust PLC (11)                  |  | 272,727                   | 

|                
|----------------
|*** Less than 1%
|                
|(1)             
|(2)             
|                
|(3)             
|                
|(4)             
|                
|(5)             
|                
|(6)             
|                
|(7)             

52

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|(8)  | Consist of options held by
  Mr. Goedhart to purchase 39,700 ordinary shares. Mr. Goedharts address is
  c/o pre-IPO AG, Am Sandtorkai 75, Hamburg 20457.                                                                                                                                                                                                                                                                                                                     
|---- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|     |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|(9)  | Consists of options held by
  Mr. Ellran to purchase 29,700 ordinary shares.                                                                                                                                                                                                                                                                                                                                                                                                   
|     |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|(10) | Consists of 218,961
  ordinary shares and warrants to purchase 119,480 ordinary shares held by
  Goldstrand Investment Inc. Also includes 100,000 ordinary shares and 50,000
  ordinary shares underlying warrants to be issued to Goldstrand Investment
  Inc. upon payment of $275,000 and the effectiveness of the registration
  statement of which this prospectus forms a part. The address of Goldstrand
  Investment Inc. is 1040 1st Avenue, #190, New York, NY 10022.
|     |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|(11) | Consists of 181,818
  ordinary shares and warrants to purchase 90,909 ordinary shares held by
  Herald Investment Trust PLC. The address of Herald Investment Trust PLC is 12
  Charterhouse Square London ECIM 6AX.                                                                                                                                                                                                                                                           

B.      RELATED
PARTY TRANSACTIONS

Our
policy is to enter into transactions with related parties on terms that are on
the whole no less favorable to us than those that would be available from
unaffiliated parties.  Based on our
experience in the business sectors in which we operate and the terms of our
transactions with unaffiliated third parties, we believe that all of the
transactions described below met this policy standard at the time they
occurred.

Agreement
with HolyTech Ltd.

In
January 1996, we entered into an agreement with HolyTech Ltd., a company owned
by Varda Bashan, Ora Gilboa and certain other of our shareholders, which
formalized an arrangement that had existed since 1992.  Varda Bashan is the spouse of Oded Bashan,
our co-founder and chairman of our board of directors, and Ora Gilboa is the
spouse of Ronnie Gilboa, our co-founder and a director.  Under the agreement, HolyTech provides us
with management and engineering services as needed.  Mrs. Bashan provides administration services, Mrs. Gilboa
provides sales operation services and a number of other shareholders of
HolyTech, who are also our employees, provide engineering and warehouse
services.  HolyTech has no activities
other than the provision of these services to us.  The cost of these services is intended to equal the cost of these
services if performed by unrelated parties. The aggregate consideration for the
services that HolyTech provided to us was $157,401 in 2001, $101,143 in 2002
and $76,000 in 2003.  On August 25,
2000, our audit committee reviewed and reapproved the terms of this agreement.

Agreements
with Directors and Officers

We
have entered into employment agreements with all of our officers.  In addition, we have granted options to
purchase our ordinary shares to our officers and directors.  On January 31, 2003 the shareholders of OTI
approved a bonus plan for our senior management and on July 11, 2003 our
general meeting approved a plan to issue options to our non-executive
directors.

Agreement
Relating to Insurance Services

We
have been receiving insurance agency services from a family member of one of
our officers.  On August 22, 2003, our
board of directors ratified and approved such engagement in accordance with the
applicable Israeli Companies Law provisions.

C.      INTERESTS
OF EXPERTS AND COUNSEL

Not applicable.

ITEM
8.            FINANCIAL
INFORMATION

A.      CONSOLIDATED
FINANCIAL 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.

53

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Legal
Proceedings

We
are currently not a party to any material legal proceedings and are not aware
of any pending or threatened litigation against us that we believe would have a
material adverse effect on our business and the business of our subsidiaries
taken as a whole.  During the last two
fiscal years, we have not been a party to any legal proceedings that have had a
material adverse effect on our business and the business of our subsidiaries
taken as a whole.

In
November, 2001 we were notified by a contracting party, P-Card, of the
termination of our purchase agreement with them.  We continue to review our options to pursue available claims
against P-Card, and we believe that all claims by P-Card that we have breached
our obligation to provide products to them are baseless and otherwise without
merit and we will aggressively defend against any such claims if they are ever
asserted.  To date no litigation or
other proceeding has been filed by any person relating to this dispute.  On June 4, 2002, we filed with the
insolvency receiver our claim for performance in the amount of $4,220,000 plus
interest and expenses under the purchase agreement with P-Card.

On
June 2002, the insolvency receiver informed the creditors that there are not
enough assets to satisfy the obligation of the insolvent estate.  On July 2002, we received the report of the
insolvency receiver, in which the insolvency receiver did not reject our claims
filed on its behalf.  On February 24,
2003 we received and excerpt of the insolvency schedule from the insolvency
court, pursuant to which the insolvency receiver challenged the asserted claims
as filed.  On May 5, 2003, we received a
letter form the insolvency receiver of P-Card wherein he claims that the
repayment of three installments of an aggregate amount of $ 1,000,000 in favor
of the receivers account not later than May 23, 2003.  We were advised by our German legal counsel
that the insolvency receivers claims are insufficient to claim repayment
successfully.  On May 12, 2003, we
rejected the receiver claim as groundless.

On
September 3, 2003, Edi Wuhl, once an employee of ours, filed a suit against us
to the District Labor Court in Nazareth in the amount of NIS 3,953,520.  The suit is based on Mr. Wuhls claims that
we have breached the employment agreement with him, and that we owe him
commission payments for certain sales. 
We consider the suit as groundless. 
On December 17, 2003, we filed a statement of defense.  In our opinion, based on our legal advisors,
the claims are without merit.  No
provision in respect thereof has been included in the consolidated financial
statements.

Dividend
Policy

We
have never declared or paid any cash dividends on our ordinary shares or other
securities.

We
currently expect to retain all future earnings, if any, to finance the
development of our business, and do not anticipate paying any cash dividends in
the foreseeable future.  Any future determination
relating to dividend policy will be made by our board of directors and will
depend on a number of factors, including future earnings, capital requirements,
financial condition and future prospects and other factors the board of
directors may deem relevant.  In the
event of a distribution of a cash dividend out of tax exempt income, we will be
liable for corporate tax at a rate of 25% in respect of the amount distributed.

B.      SIGNIFICANT
CHANGES

Except
as otherwise disclosed in this annual report, no significant change has
occurred since December 31, 2002.

ITEM
9.            THE
OFFER AND LISTING

A.      OFFER
AND LISTING DETAILS

Our
ordinary shares have been quoted on the Neuer Markt of the Frankfurt Stock
Exchange since August 31, 1999.  Our
ordinary shares were traded on the Neuer Markt in Germany until February 3,
2002 after which, the shares were listed on the new Prime Standard Market of
the Frankfurt Stock Exchange. 
Commencing November 2002, our ordinary shares were also listed for
trading on NASDAQ Small Cap Market.

54

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---

The
following table shows, for the periods indicated, the high and low closing
prices of our ordinary shares in Euros giving effect to the reverse split as
reported on the Neuer Markt of the Frankfurt Stock Exchange.  The closing prices that are indicated below
commencing February 3, 2003 were as reported in the Prime Standard Market of
the Frankfurt Stock Exchange. It also shows, for the periods indicated, the
high and low closing prices of our ordinary shares expressed in U.S. dollars
based on the noon buying rate in New York City for cable transfers in foreign
currencies, as certified for customs purposes by the Federal Reserve Bank of
New York on the relevant dates. See the discussion below for the exchange rates
applicable during the periods set forth below. The following table also shows,
for the periods indicated since November 2002, the high and low closing prices
of our ordinary shares in U.S. dollars as reported on NASDAQ SmallCap.

|               |  | Frankfurt Stock
  Exchange (1)
  per
  Share  |  | Frankfurt Stock
  Exchange (1)
  per
  Share $ |      | NASDAQ Small
  Cap
  Per
  Share $ | 
|-------------- |  | ---------------------------------------------- |  | ---------------------------------------------- | ---- | ---------------------------------- | 
|               |  |                                                |  |                                                |      |                                    | 
|               |  | High                                           |  | Low                                            |      | High                               | 
|               |  |                                                |  |                                                |      |                                    | 
|               |  |                                                |  |                                                |      |                                    | 
|1999           |  |                                                |  |                                                |      |                                    | 
|Annual 1999    |  | 77.8                                           |  |                                                | 49.5 |                                    | 
|2000           |  |                                                |  |                                                |      |                                    | 
|Annual 2000    |  | 313.0                                          |  |                                                | 32.5 |                                    | 
|2001           |  |                                                |  |                                                |      |                                    | 
|Annual 2001    |  | 77.5                                           |  |                                                | 8.5  |                                    | 
|2002           |  |                                                |  |                                                |      |                                    | 
|First quarter  |  | 14.5                                           |  |                                                | 10.4 |                                    | 
|Second quarter |  | 11.4                                           |  |                                                | 7.0  |                                    | 
|Third quarter  |  | 9.6                                            |  |                                                | 3.9  |                                    | 
|Fourth quarter |  | 8.4                                            |  |                                                | 3.5  |                                    | 
|Annual 2002    |  | 14.5                                           |  |                                                | 3.5  |                                    | 
|2003           |  |                                                |  |                                                |      |                                    | 
|First quarter  |  | 5.3                                            |  |                                                | 3.0  |                                    | 
|Second quarter |  | 4.7                                            |  |                                                | 3.2  |                                    | 
|Third quarter  |  | 4.4                                            |  |                                                | 3.0  |                                    | 
|Fourth quarter |  | 9.7                                            |  |                                                | 3.6  |                                    | 
|September 2003 |  | 4.0                                            |  |                                                | 3.4  |                                    | 
|October 2003   |  | 6.9                                            |  |                                                | 3.6  |                                    | 
|November 2003  |  | 8.2                                            |  |                                                | 5.9  |                                    | 
|December 2003  |  | 9.7                                            |  |                                                | 5.7  |                                    | 
|2004           |  |                                                |  |                                                |      |                                    | 
|First quarter  |  | 11.5                                           |  |                                                | 5.9  |                                    | 
|January 2004   |  | 11.5                                           |  |                                                | 9.5  |                                    | 
|February 2004  |  | 10.3                                           |  |                                                | 9.8  |                                    | 
|March 2004     |  | 8.4                                            |  |                                                | 5.9  |                                    | 

|   
|---
|(1)

B.      PLAN
OF DISTRIBUTION

Not
applicable.

C.      MARKETS

Our
ordinary shares, to the extent they are admitted to the Neuer Markt, are
represented by global share certificates registered in the name of Clearstream
Banking AG.  As a result, we do not know
the number of our outstanding ordinary shares held in the United States or the
number of holders of our ordinary shares who reside in the United States.

The
following table sets forth, for the periods and dates indicated, information concerning
the noon buying rate for the Euro, expresses in Euros per dollar.

55

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|                              |  | Average
  Rate (1) |  | High |        | Low |  | Period-
  End Rate | 
|----------------------------- |  | ------------------ |  | ---- | ------ | --- |  | ------------------ | 
|                              |  |                    |  |      |        |     |  |                    | 
|                              |  |                    |  |      |        |     |  |                    | 
|1999                          |  | .9455              |  |      | .9984  |     |  | .8466              | 
|2000                          |  | 1.0860             |  |      | 1.2090 |     |  | .9675              | 
|2001                          |  | 1.1173             |  |      | 1.2346 |     |  | 1.0488             | 
|2002                          |  | 0.9454             |  |      | 1.1636 |     |  | 0.9537             | 
|2003                          |  | 1.1321             |  |      | 0.9652 |     |  | 0.7938             | 
|2004 (through March 26, 2004) |  | 1.2514             |  |      | 0.8273 |     |  | 0.778              | 

|   
|---
|(1)

Our
ordinary shares are traded publicly on the NASDAQ Small Cap Market under the
symbol OTIV.  Our ordinary shares are
traded publicly on the Prime Standard Market of the Frankfurt Stock Exchange
under the symbol OT5.

On
March 31, 2004, the last reported sale price of our ordinary shares on the
NASDAQ Small Cap Market was $8.76 per share. 
According to our transfer agent, as of March 31, 2004, there was one
holder of record of our ordinary shares.

D.      SELLING
SHAREHOLDERS

Not applicable.

E.      DILUTION

Not applicable.

F.      EXPENSES
OF THE ISSUE

Not applicable.

ITEM
10.          ADDITIONAL
INFORMATION

A.      SHARE
CAPITAL

Not applicable.

B.      MEMORANDUM
AND ARTICLES OF ASSOCIATION

We
were incorporated under the laws of the State of Israel on February 15, 1990,
under the name of De-Bug Innovations Ltd., with unlimited duration.  We are registered with the Israeli registrar
of companies in Jerusalem.  Our founders
were Oded Bashan and Ronnie Gilboa and our registration number is
52-004286-2.  Our name was changed to On
Track Innovations on July 8, 1991.  Our
objectives under our memorandum of association are to engage in any activity
related to innovation and inventions in the fields of science and technology.

The
following is a summary of the material provisions of our Articles of
Association and related provisions of Israeli corporate law.  This summary is qualified in its entirety by
reference to the complete text of the Articles of Association; see Item
4.  Information on the Company.  General and Item
19.  Exhibits.

Description
of Shares

Our
authorized share capital consists of 10,000,000 ordinary shares, NIS 0.1
nominal value.

The following table sets
out changes in our authorized share capital occurring during the last three
years:

|Date              |  | Nature of Action                               |  | State of Authorized Share Capital                                                
|----------------- |  | ---------------------------------------------- |  | ---------------------------------------------------------------------------------
|                  |  |                                                |  |                                                                                  
|                  |  |                                                |  |                                                                                  
|March 11, 2001    |  | Increase in share capital                      |  | NIS 500,000 divided into 50,000,000 ordinary shares
  of nominal value NIS 0.01. 
|June 17, 2002     |  | Consolidation of share capital                 |  | NIS 500,000 divided into 5,000,000 ordinary shares
  of nominal value NIS 0.1.   
|November 14, 2003 |  | Raise of share capital by additional 5,000,000 |  | NIS 1,000,000 divided into 10,000,000 ordinary
  shares of nominal value NIS 0.1.

56

---

---

Description
of Ordinary Shares

As
of March 31, 2004, our authorized share capital consists of 10,000,000 ordinary
shares, nominal value of NIS 0.1 per share, of which 5,548,861 are issued and
outstanding.

The
ownership or voting of ordinary shares by non-residents of Israel is not
restricted in any way by our articles of association or the laws of the State
of Israel, except that nationals of countries which are in a state of war with
Israel might not be recognized as owners of ordinary shares.

Dividend
and Liquidation Rights

We
are permitted to declare a dividend to be paid to the holders of ordinary
shares, but we have never declared a dividend and we do not anticipate any
dividend declaration in the foreseeable future.  Dividends may only be paid out of our profits and other surplus
funds, as defined in the Companies Law, as of the end of the most recent fiscal
year or as accrued over a period of two years, whichever is higher, provided
that there is no reasonable concern that payment of a dividend will prevent us
from satisfying our existing and foreseeable obligations as they become
due.  In the event of our liquidation,
after satisfaction of liabilities to creditors, our assets will be distributed
to the holders of ordinary shares in proportion to the nominal value of their
holdings.  This right may be affected by
the grant of preferential dividend or distribution rights to the holders of a
class of shares with preferential rights that may be authorized in the future
by our shareholders.  Under the
Companies Law, the declaration of a dividend does not require the approval of
the shareholders of a company unless the companys articles of association
require otherwise.  Our articles of
association provide that our board of directors may declare and pay dividends
without the approval of our shareholders.

Preemptive
Rights

Under
Israeli law, shareholders in public companies such as ours do not have
preemptive rights.

This
means that our shareholders do not have the legal right to purchase shares in a
new issue before they are offered to third parties.  As a result, our shareholders could experience dilution of their
ownership interest if we decide to raise additional funds by issuing more
shares and these shares are purchased by third parties.

Voting,
Shareholders Meetings and Resolutions

Holders
of our ordinary shares have, for each ordinary share held, one vote 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 by our shareholders. 
The quorum required for a general meeting of shareholders consists of at
least two shareholders present, in person or by proxy, who hold or represent
together at least 25% of our issued and outstanding ordinary shares, provided,
however that as long as we are listed on NASDAQ, the quorum at a general
meeting shall be two members present in person or by proxy holding at least
33-1/3% of our issued and outstanding ordinary shares or such higher percentage
as NASDAQ may impose on listed companies from time to time so long as such
higher percentage is in effect.  A
meeting adjourned for lack of a quorum is generally adjourned to the same day
in the following week at the same time and place.  If a quorum is not present within half an hour following the time
appointed for the reconvened meeting, the shareholders then present, in person
or by proxy, shall constitute a quorum.

Under
the Companies Law, unless otherwise provided in the articles of association or
by applicable law, shareholders resolutions require the approval of holders of
a simple majority of our ordinary shares voting, in person or by proxy on the
matter.  A shareholders resolution to
amend our articles requires the approval of a simple majority of our
shareholders present in person or by proxy.

57

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Under
the Companies Law, a shareholder has certain duties of good faith and fairness
towards the company.

Transfer
of Shares and Notices

Fully
paid ordinary shares are issued in registered form and may be freely
transferred under our articles of association unless the transfer is restricted
or prohibited by Israeli law or the rules of a stock exchange on which the
shares are traded.  Under the Companies
Law, unless otherwise provided in the articles of association or by applicable
law, shareholders of record are entitled to receive at least 21 days prior
notice of meetings of shareholders.  Our
articles of association provide that each shareholder of record is entitled to
receive at least 14 days prior notice of any annual or extraordinary
shareholders meeting and at least 21 days prior notice of any shareholders
meeting at which a special resolution is proposed.

Special
Notification Duties

Our
articles of association provide that any shareholder whose shareholding
increases above 1%, 5%, 10%, 15%, 20%, 25%, 30%, and so on, of our then
outstanding share capital, is obliged to notify us in writing of such change
within ten days.  A shareholder who
fails to comply with this requirement will be denied his or her voting rights,
in respect of shares in excess of the particular threshold the crossing of
which was not reported, for a six- to 24-month period to be determined in light
of relevant circumstances by the board of directors in its sole
discretion.  Shareholders complying with
the filing requirements of Sections 13(d) and 13(g) of the U.S. Securities
Exchange Act of 1934 and the regulations promulgated thereunder will not be
subject to this requirement.

The
German Securities Trading Act (Wertpapierhandelsgesetz--WpHG) provides that any
shareholder whose shareholdings in a listed company reaches, exceeds or falls
short of 5%, 10%, 25%, 50% or 75% of the voting rights by purchase, sale of by
any other means shall immediately, and at the latest within seven calendar
days, notify the company and the Federal Agency for Supervision for Financial
Services (Bundesanstalt fur Finanzdienstleistungsaufsicht) in writing of having
reached, exceeded or fallen short of the above-mentioned thresholds and of
their percentage of the voting rights, by indicating his address and the day on
which he has reached, exceeded or fallen short of the respective threshold.

Anti-Takeover
Provisions under Israeli Law

Tender
Offer.  A person
wishing to acquire shares of a publicly traded Israeli company and who would as
a result hold over 90% of the companys issued and outstanding share capital is
required by the Companies Law to make a tender offer to all of the companys
shareholders for the purchase of all of the issued and outstanding shares of
the company.  If the shareholders who
refuse to sell their shares hold less than 5% of the issued share capital of
the company, all of the shares held by such shareholders that the acquirer
offered to purchase will be transferred to the acquirer by operation of
law.  However, the shareholders may
petition the court to alter the consideration for the acquisition.  If the dissenting shareholders hold more
than 5% of the issued and outstanding share capital of the company, the
acquirer may not acquire additional shares of the company from shareholders who
accepted the tender offer if following such acquisition the acquirer would then
own over 90% of the companys issued and outstanding share capital.

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 25% or greater shareholder of the company.  This rule does not apply if there is already
another 25% shareholder of the company. 
As of the date of this annual report, we are not aware of any single
shareholder which holds 25% or more of our shares.  Similarly, the Companies Law provides that an acquisition of
shares in a public company must be made by means of a tender offer if as a result
of the acquisition the purchaser would become a 45% or greater shareholder of
the company, if there is no 50% or greater shareholder of the company.
Regulations promulgated under the Companies Law provide that the tender offer
requirements described in this paragraph do not apply to companies whose shares
are listed for trading outside of Israel if, according to the law in the
country in which the shares are traded, including the rules and regulations of
the stock exchange on which the shares are traded, either:

| |  | there is a limitation on the acquisition of any
  level of control of the company; or      
| | - | -------------------------------------------------------------------------------------------
| |   |                                                                                            
| |  | the acquisition of any level of control must be by
  means of a tender offer to the public.

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Merger.  The Companies Law permits merger
transactions if approved by each partys board of directors and the majority of
each partys shares voted on the proposed merger at a shareholders meeting
called on at least 21 days prior notice. 
Our articles of association provide that merger transactions may be
approved by a simple majority of the shareholders present, in person or by
proxy, at a general meeting of our shareholders.  Under the Companies Law, in determining whether the required
majority has approved the merger, shares held by the other party to the merger,
any person holding at least 25% of the outstanding voting shares or holding at
least 25% of the means of appointing directors of the other party to the
merger, or anyone acting on their behalf, including their relatives or
companies controlled by them, are excluded from the vote.  If a majority of shareholders of one of the
parties do not approve the transaction because the votes of certain
shareholders are excluded from the vote, a court may still approve the merger
upon the request of holders of at least 25% of the voting rights of a company,
if the court holds that the merger is fair and reasonable, taking into account
the value of the parties to the merger and the consideration offered to the
shareholders.  Upon the request of a
creditor of either party to the proposed merger, the court may delay or prevent
the merger 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 executed unless at least 70 days
have passed from the time that a proposal for approval of the merger has been
filed with the Israeli Registrar of Companies.

Tax
Law.  Israeli tax law
treats specified acquisitions, including a share-for-share swap between an
Israeli company and a foreign company, less favorably than does United States
tax law.  For example, Israeli tax law
may subject a shareholder who exchanges ordinary shares in an Israeli company
for shares in a foreign company to immediate taxation.

Other
Anti-Takeover Provisions

Under
the German Act relating to Tenders for the Acquisition of Securities and
Companies (Wertpapiererwerbs und Übernahmegesetz--Wp ÜG), anybody who obtains
the control of a target company is obligated to make an offer for the
acquisition of the shares of the outside shareholders for adequate
consideration.  Control under the Wp ÜG
means the direct or indirect holding of 30% of the voting rights of the target
company.  We are also subject to the
tender offer provisions of the U.S. Securities Exchange Act of 1934, as
amended.

Prior
to December 31, 2004, our co-founders, Oded Bashan and Ronnie Gilboa, may not
be removed from our board without the affirmative vote of 75% of our
shareholders entitled to vote and voting, in person or by proxy, at a general
shareholders meeting.

Transfer
Agent, Registrar and Paying Agent

The
transfer agent and registrar for our ordinary shares in the United States is
Continental Stock Transfer & Trust Company.  Its address is 17 Battery Place, New York, New York 10004, and
its telephone number at this location is 212-509-4000.  Our paying agent in Germany is Dresdner Bank
AG.

Election
of Directors; Appointment of Officers

Our
current board of directors consists of five directors.  Under our articles of association, our board
of directors may not consist at any time of more than seven members.  A majority of these directors must be
non-executive directors, who are directors that are neither office holders nor
our employees.  Directors are appointed,
removed or replaced, by a majority vote of our shareholders present in person
or by proxy at a general meeting of shareholders.  Each group of shareholders holding in aggregate 20% or more of our
outstanding share capital is entitled to submit a written list of candidates
for appointment as directors at a general meeting.  Shareholders may only vote for a list in its entirety unless
shareholders present at the meeting holding at least 20% of our outstanding
share capital require that the vote be for individual directors.

On
July 19, 1999, some of our shareholders, including Oded Bashan, Ronnie Gilboa,
Moshe Aduk and Ohad Bashan, who hold in the aggregate approximately 15% of our
outstanding share capital, entered into a voting agreement together with a
number of our former directors and officers. 
The voting agreement had applied solely to the election of directors.
The parties terminated that voting agreement, effective October 31, 2002.

Once
elected at a shareholders meeting, our directors, except our external
directors, hold office until the first general meeting of shareholders held at
least twenty-four months after their election. 
Incumbent directors may be reelected at that meeting.  Prior to December 31, 2004, however, our
founders, Oded Bashan and Ronnie Gilboa, may not be replaced or removed without
the affirmative vote of 75% of our shareholders entitled to vote and voting, in
person or by proxy, at a general shareholders meeting.  Unless contrary to the law, a director may
be elected for consecutive terms.  Under
the new Israeli Companies Law, which took effect on February 1, 2000, the chief
executive officer of a public company may not serve as a chairman of the board
of directors unless authorized by a general meeting of the shareholders and
then only for a period of time that does not exceed three years.  As a result, on May 25, 2003 our Board
approved to include a resolution that will extend Oded Bashans appointment
(who has served as our President and Chief Executive Officer since 1990), in
our upcoming Annual General Meeting scheduled to July 4, 2003, for an
additional period of three years.

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Our
board of directors appoints our chief executive officer. Each of our executive
officers serves at the discretion of the board of directors, subject to the
terms of any employment agreement, and holds office until his or her successor
is elected or until his or her earlier resignation or removal.  Except for Ohad Bashan, our Head of Global
Marketing and Strategy Development, and President and Chief Executive Officer
of OTI America, Inc., who is the son of Oded Bashan, our co-founder and
chairman of our board of directors, none of our directors or executive officers
has any family relationship with any other director or executive officer.

Fiduciary
Duties; Approval of Certain Transactions

The
Companies Law codifies the fiduciary duties that office holders owe to a
company.  An office holders fiduciary
duties consist of a duty of care and a duty of loyalty.  The duty of care requires an office holder
to act with the degree of care with which a reasonable office holder in the
same position would act under the same circumstances.  The duty of care includes using reasonable means to obtain
information as to the advisability of a given action submitted for his or her
approval or performed by virtue of his or her position, as well as all other
information pertaining to such actions. 
The duty of loyalty requires an office holder to act in good faith and
for the benefit of the company, and includes avoiding any conflict of interest
between the office holders other positions or personal affairs and the
performance of his or her position in the company, avoiding any competition
with the company, avoiding exploiting any business opportunity of the company
in order to receive a personal benefit for himself or herself or others, and
revealing to the company any information or documents relating to the companys
affairs which come into the office holders possession as a result of his or
her position as an office holder.

The
Companies Law further 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 must be made promptly and in no event later than the board of
directors meeting at which the transaction is first discussed.  In addition, if the transaction is an
extraordinary transaction, as defined below, the office holder must also
disclose any personal interest held by the office holders spouse, siblings,
parents, grandparents, descendants, spouses descendants and the spouses of any
of the foregoing and by any corporation in which the office holder is a 5% or
greater shareholder, director or general manager or in which he or she has the
right to appoint the general manager or at least one director.  The Companies Law defines an extraordinary
transaction as a transaction that is not in the ordinary course of business,
that is not on market terms, or that is likely to have a material impact on a
companys profitability, assets or liabilities.  In the case of a transaction between the company and an office
holder, or a third party in which an office holder has a personal interest, but
that is not an extraordinary transaction and is not adverse to the companys
interest, once the office holder complies with the above disclosure
requirements only board approval is required unless the articles of association
of the company provide otherwise.  In
the case of an extraordinary transaction between the company and an office
holder, or a third party in which an office holder has a personal interest, in
addition to any approval required by the articles of association, the
transaction must be approved first by the audit committee, then by the board of
directors and, in certain cases, by the shareholders.  A director who has a personal interest in a matter that is
considered at a meeting of the board of directors or the audit committee may in
general not be present at this meeting or vote on this matter.  If a majority of the directors have a
personal interest in an extraordinary transaction, these directors are
permitted to be present and vote on the transaction, but shareholder approval
is also required.

Under
the Companies Law, all arrangements as to compensation of office holders who
are not directors require approval by the board of directors, and undertakings
to indemnify or insure an office holder who is not a director require both
board and audit committee approval.  In
general, arrangements regarding the compensation, indemnification and insurance
of directors require audit committee and shareholder approval in addition to
board approval.

The
Companies Law applies the same disclosure requirements to a controlling party
of a public company that it applies, as described above, to an office
holder.  For these purposes a
controlling party is any person possessing the ability to direct the
activities of the company, including a shareholder which holds 25% or more of
the voting rights of the company if no other shareholder owns more than 50% of
the voting rights in the company, but excluding a person whose power is derived
solely from his or her position on the board of directors or from another
position with the company.  Two or more
shareholders with a personal interest in the approval of the same transaction
are deemed to be joint shareholders. 
Extraordinary transactions with a controlling party or in which a
controlling party has a personal interest, and the engagement and terms of
compensation of a controlling party as an office holder, require the approval
of the audit committee, the board of directors and the shareholders.  Shareholder approval must be by a majority
of shares voted at the meeting, including at least one-third of the shares of
the disinterested shareholders who are present, in person or by proxy, at the
meeting, or, alternatively, the total shareholdings of the disinterested
shareholders who vote against the transaction must not represent more than 1%
of the aggregate voting rights in the company.

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Under
the Companies Law, a shareholder has a duty to refrain from abusing his or her
power in the company and to act in good faith in exercising its rights and
performing its obligations to the company and other shareholders, including,
among other things, voting at a general meeting of shareholders on the
following matters:

| |  | an amendment to the articles of association;                             
| | - | -------------------------------------------------------------------------
| |   |                                                                          
| |  | an increase in the companys authorized share
  capital;                 
| |   |                                                                          
| |  | a merger; and                                                            
| |   |                                                                          
| |  | approval of a related-party transaction requiring
  shareholder approval.

In
addition, any controlling shareholder, any shareholder who knows that its vote
can determine the outcome of a shareholder vote and any shareholder who, under
a companys articles of association, can appoint or prevent the appointment of
an office holder, is under a duty to act with fairness towards the
company.  The Companies Law does not
describe the substance of this duty.

Exculpation,
Indemnification and Insurance of Office Holders

Under
the Companies Law, an Israeli company may only exculpate an office holder in
advance, in whole or in part, for breach of duty of care and only if a
provision authorizing such exculpation is included in its articles of
association.  Our articles of
association include such a provision.  A
company may not exculpate an office holder for breach of duty of loyalty.  However, the company may approve an act
performed in breach of the duty of loyalty of an office holder provided that
the office holder acted in good faith, the act or its approval does not harm
the company, and the office holder discloses the nature of his or her personal
interest in the act and all material facts and documents a reasonable time
before discussion of the approval.

A
company may indemnify an office holder in respect of certain liabilities either
in advance of an event or following an event provided a provision authorizing
such indemnification is inserted in its articles of association.  Advance indemnification of an office holder
must be limited to foreseeable liabilities and reasonable amounts determined by
the board of directors.  A company may
indemnify an office holder against the following liabilities incurred for acts
performed as an office holder:

| |  | a financial liability imposed on him in favor of
  another person pursuant to a judgment, settlement or arbitrators award
  approved by court; and                                                                                                                                                                                                                                           
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                                                                                                                                                                                                                               
| |  | reasonable litigation expenses, including attorneys
  fees, incurred by the office holder or imposed by a court in proceedings
  instituted against him by the company, on its behalf or by a third party, in
  connection with criminal proceedings in which the officer holder was
  acquitted or as a result of a conviction for a crime that does not require
  proof of criminal intent.

A
company may insure an office holder against the following liabilities incurred
for acts performed as an office holder:

| |  | a breach of duty of loyalty to the company, to the
  extent that the office holder acted in good faith and had a reasonable basis
  to believe that the act would not prejudice the company;
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                             
| |  | a breach of duty of care to the company or to a
  third party; and                                                                                                                          
| |   |                                                                                                                                                                                             
| |  | a financial liability imposed on the office holder
  in favor of a third party.                                                                                                             

An
Israeli company may not indemnify or insure an office holder against any of the
following:

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| |  | a breach of duty of loyalty, except to the extent
  that the office holder acted in good faith and had a reasonable basis to
  believe that the act would not prejudice the company;
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                     
| |  | a breach of duty of care committed intentionally or
  recklessly;                                                                                                                   
| |   |                                                                                                                                                                                     
| |  | an act or omission committed with intent to derive
  illegal personal benefit; or                                                                                                   
| |   |                                                                                                                                                                                     
| |  | a fine levied against the office holder.                                                                                                                                            

Under
the Companies Law, indemnification and insurance of office holders must be
approved by our audit committee and our board of directors and, in specified
circumstances, by our shareholders.

Our
articles of association allow us to indemnify and insure our office holders to
the fullest extent permitted by the Companies Law.  Our office holders are currently covered by a directors and
officers liability insurance policy with an aggregate claim limit of $5
million.  As of the date of this annual
report, no claims for directors and officers liability insurance have been
filed under this policy.

In
the opinion of the U.S. Securities and Exchange Commission, however,
indemnification of directors and office holders for liabilities arising under
the Securities Act is against public policy and therefore unenforceable.

C.      MATERIAL
CONTRACTS

Other
than in the ordinary course of business, we did not enter into any material
contracts in the past two years.

D.      EXCHANGE
CONTROLS

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

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

E.      TAXATION

Israeli
Taxation, Foreign Exchange Regulation and Investment Programs

The
following is a summary of the material aspects of the current tax structure
applicable to companies in Israel and their effect on us.  The summary also contains a discussion of
Israeli tax consequences to persons purchasing our ordinary shares not by way
of issuance of bonus shares and Israel Government programs benefiting us.  Portions of this discussion are based on tax
legislation that has not yet been subject to judicial or administrative
interpretation, and we cannot assure you that the views expressed in this
discussion will be accepted by the tax authorities in question.  The discussion should not be relied on as
legal or professional tax advice and is not exhaustive of all possible tax
considerations.

We
urge investors in our ordinary shares to consult their own tax advisors as to
the 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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Tax
Reform

Effective
as of January 1, 2003 a comprehensive tax reform took effect in Israel.  Pursuant to the reform, resident companies
are subject to Israeli tax on income accrued or derived in Israel or
abroad.  In addition, the concept of
controlled foreign corporation was introduced according to which an Israeli
company or an individual may become subject to Israeli taxes on certain income
of a non-Israeli subsidiary if the subsidiarys primary source of income is
passive income (such as interest, dividends, linkage differences royalties,
rental income or capital gains).  The
tax reform also substantially changed the system of taxation of capital gains.

Taxation
of companies

General
Corporate Tax Structure. 
Israeli companies are subject to corporate tax at the rate of 36% of
taxable income.  However, the effective
tax rate payable by a company which derives income from certain approved
enterprises may be considerably lower, as discussed further below.

Tax
Benefits Under the Law for the Encouragement of Capital Investments, 1959.  The Law for the Encouragement of Capital
Investment, 1959, commonly referred to as the Investment Law, provides that a
proposed capital investment in eligible facilities may, upon application to the
Investment Center of the Ministry of Industry and Trade 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 under the program.  The tax benefits derived from any 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 is approved, its effective tax rate
is the result of a weighted combination of the applicable rates.  Income derived from activity which is not
integral to the activity of the enterprise should not be divided between the
different approved enterprises and should not enjoy tax benefits.

Taxable
income of a company derived from an approved enterprise is subject to a reduced
corporate tax rate of 25%.  The tax rate
is subject to additional reductions depending on the percentage of foreign
investment in the relevant company until the earlier of:

| |  | Seven consecutive years, or ten years in the case of
  a foreign investors company as defined below, starting in the year in which
  the approved enterprise first generates taxable income;
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                              
| |  | Twelve years from the start of production; or                                                                                                                                                
| |   |                                                                                                                                                                                              
| |  | Fourteen years from the date of approval of the
  approved enterprise status.                                                                                                                

A
company owning an approved enterprise may elect to forego entitlement to grants
otherwise available as a result of an approved enterprise in return for an
alternative package of benefits.  Under
the alternative package of benefits, 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 the
company will be eligible for a reduced tax rate for the remainder of the
benefits period.

We
elected to adopt the Alternative Benefits Program status for our investment
programs.  A company that has elected to
receive 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 any company tax on these amounts, at the rate which would have been
applicable had it not elected the alternative package of benefits, generally
10%-25%, depending on the percentage of the investment in the companys shares
held by foreign shareholders.  The
dividend recipient is taxed at the reduced rate applicable to dividends from
approved enterprises, which is 15%, if the dividend is distributed during the
tax exemption period or within 12 years after this period.  The company must withhold this tax at
source.  If classified as a foreign
investors company there is no limit on the period during which a dividend may
be distributed from approved enterprise profits and it should always enjoy the
benefits of the law.

Subject
to the provisions of the law 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. 
Under the Investment Law, a company that has elected the alternative
package of benefits is not obliged to distribute exempt retained profits, and
may generally decide from which years profits to declare dividends.  We currently intend to reinvest any amount
derived from our approved enterprise programs and not to distribute the income
as a dividend.

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A
company that has an approved enterprise program is eligible for further tax
benefits if it qualifies as a foreign investors company.  A foreign investors company is a company
whose investees, comprising non-Israeli residents, directly or indirectly hold
more than 25% of the companys share capital and combined share and loan
capital.  A company that qualifies as a
foreign investors company and has an approved enterprise program is eligible
for tax benefits for a ten-year benefit period.  The company tax rate applicable to income earned from approved
enterprise programs (currently, for programs on which an application for an
approved enterprise status was submitted before 31, December, 2003) in the benefit
period (following the period, if any, of no tax) by a company meeting these
qualifications is as follows:

|For a company with foreign investment of |  | Tax Rate | 
|---------------------------------------- |  | -------- | 
|                                         |  |          | 
|Over 25% but less than 49%               |  | 25%      | 
|49% or more but less than 74%            |  | 20%      | 
|74% or more but less than 90%            |  | 15%      | 
|90% or more                              |  | 10%      | 

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 applications
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 upon the
criteria 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 consumer price index linkage adjustment and interest.

The
Investment Center has granted approved enterprise status to three of our
investment programs under the alternative benefits option.  Taxable income derived from these programs
is tax exempt for a period of ten years beginning with the year in which we
first generate taxable income.  We have
derived, and expect to continue to derive, a substantial portion of our revenues
from our approved enterprise programs at our manufacturing facility.  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.  There is no certainty that the Israeli
government will continue to provide the same or similar tax benefits in the
future.

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,
commonly referred to as the Research Law, research and development programs
which meet specified criteria and are approved by a governmental committee of
the Office of the Chief Scientist are eligible for grants of up to 50% of the
projects expenditure, as determined by the research committee, in exchange for
the payment of royalties from the sale of products developed under the program.
Regulations under the Research Law generally provide for the payment of
royalties to the Chief Scientist of 3 to 5% on sales of products and services
derived from our technology developed using these grants until 100% of the
dollar-linked grant is repaid.  For
programs approved from 1999 and thereafter, the amount of the grant to be
repaid will include annual interest at LIBOR from the date of approval.  .

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 of the Research Law, if any of the manufacturing is performed
outside Israel by any entity other than us, assuming we receive approval from
the Chief Scientist for the foreign manufacturing, we may be required to pay
increased royalties. The increase in royalties depends upon the manufacturing
volume that is performed outside of Israel follows:

|Manufacturing Volume Outside of Israel |  | Royalties
  to the Chief Scientist
  as a Percentage of Grant | 
|-------------------------------------- |  | ------------------------------------------------------------- | 
|                                       |  |                                                               | 
|                                       |  |                                                               | 
|less than 50%                          |  | 120%                                                          | 
|between 50% and less than 90%          |  | 150%                                                          | 
|90% and more                           |  | 300%                                                          | 

If
the manufacturing is performed outside of Israel by us, the rate of royalties
payable by us on revenues from the sale of products manufactured outside of
Israel will increase by 1% over the regular rates. If the manufacturing is
performed outside of Israel by a third party, the rate of royalties payable by
us on those revenues will be a percentage equal to the percentage of our total
investment in the Given System that was funded by grants. In addition, in
recent years the government of Israel has accelerated the rate of royalty rates
for repayment of Chief Scientist grants, and may further accelerate them in the
future.

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The technology developed
with Chief Scientist grants may not be transferred to third parties without the
prior approval of a governmental committee under the Research Law, and may not
be transferred to non-residents of Israel. 
The approval, however, is not required for the export of any products
developed using the grants.  Approval of
the transfer of technology to residents of Israel may be granted in specific
circumstances, only if the recipient abides by the provisions of the Research
Law and related regulations, including the restrictions on the transfer of
know-how and the obligation to pay royalties in an amount that may be
increased.  We cannot provide any
assurance that any consent, if requested, will be granted.

The
funds available for grants from the Chief Scientist depend on several criteria
and prevailing government policy and budget, and may be reduced or eliminated
in the future.  Even if these grants are
maintained, there is no assurance that we will receive Chief Scientist grants
in the future.  In addition, each application
to the Chief Scientist is reviewed separately, and grants are based on the
program approved by the research committee. 
Expenditures supported under other incentive programs of the State of
Israel are not eligible for grants from the Chief Scientist.  We cannot provide any assurance that
applications to the Chief Scientist will be approved and, until approved, the
amounts of any grants are not determinable.

Tax
Benefits for Research and Development.  Israeli tax law allows, under specific
conditions, a tax deduction in the year incurred for expenditures, including
capital expenditures, relating to 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 the deduction. 
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.

Tax
Benefits Under the Law for the Encouragement of Industry (Taxes), 1969.  The Law for the Encouragement of Industry
(Taxation), 1969, generally referred to as the Industry Encouragement Law,
provides several tax benefits for industrial companies.  An Industrial Company is defined as a
company resident in Israel, at least 90% of whose income in a given tax year
exclusive of income from specified sources, 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.

Under
the Industry Encouragement Law, industrial companies are entitled to the
following preferred corporate tax benefits:

| |  | deduction of purchase of know-how and patents
  utilized in the development of the company over an eight-year period;                                                   
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                         
| |  | deduction of expenses incurred in connection with a
  public stock issuance over a three-year period; and                                                               
| |   |                                                                                                                                                                         
| |  | right to elect, under certain conditions, to file a
  consolidated tax return with additional related Israeli industrial companies
  operating a common production line.

Under
some tax laws and regulations, an industrial enterprise may be eligible for
special depreciation rates for machinery, equipment and buildings.  These rates differ based on various factors
including the date operations begin and the number of work shifts.  An industrial company owning an approved
enterprise may choose between the depreciation rates for an industrial company
provided for in the Income Tax Regulations (Inflationary Adjustments)
(depreciation rates), 1986 or the regular depreciation rates determined in the
above Regulations.

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

Special
Provisions Relating to Taxation under Inflationary Conditions.  The Income Tax Law (Inflationary
Adjustments), 1985, 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.  These are some of its important features:

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| |  | 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 assets.  Where a companys equity, as defined in
  the 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 the 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 the
  excess multiplied by the applicable annual rate of inflation is added to
  taxable income.
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
| |  | Subject to certain limitations, depreciation
  deductions on fixed assets and losses carried forward are adjusted for
  inflation based on the increase in the Israeli consumer price index.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
| |   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
| |  | Gains on traded securities, are taxable in certain
  circumstances determined under the Inflationary Adjustments Law.  However, dealers in securities are subject
  to the regular tax rules applicable to business income in Israel.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               

One
of the net effects of the Inflationary Adjustments Law is that our taxable
income for Israeli corporate tax purposes will be different from our dollar
income reflected in our financial statements, which are based on changes in the
Shekel exchange rate with respect to the dollar.

Taxation
of our shareholders

Reform
in Taxation of Capital Market.  As mentioned above, on July 24, 2002, the Israeli parliament, the
Knesset, approved an extensive amendment to the Income Tax Ordinance.  The amendment substantially changed the
taxation in several areas, including taxation of the capital market.  Generally, the amendment shall become
effective regarding taxation of the capital market on January 1, 2003.

Capital
Gains Tax on Sales of Our Ordinary Shares.  Israeli law imposes a capital gains tax on
the sale of capital assets.  The law
distinguishes between real gain and inflationary surplus.  The inflationary surplus is a portion of the
total capital gain that is equivalent to the increase of the relevant assets
purchase price that is attributable to the increase in the Israeli consumer
price index between the date of purchase and the date of sale.  The real gain is the excess of the total
capital gain over the inflationary surplus. 
The inflationary surplus accumulated from and after December 31, 1993 is
exempt from any capital gains tax in Israel. 
The real gain is added to ordinary income, which effective until
December 31 ,2002 was taxed at ordinary rates of up to 50% for individuals and
36% for corporations.

Effective
January 1, 2003, the capital gains tax rate imposed upon sale of capital assets
acquired after that date has been reduced to 25%; capital gains accrued from
assets acquired before that date are subject to a blended tax rate based on the
relative periods of time before and after that date that the asset was held.

Capital
Gains Tax on Sales of Our Ordinary Shares Effective January 1, 2003.  Payers of Israeli tax who are not subject to
the Inflationary Adjustments Law or are not entitle  to maintain books in foreign currency shall be subject to 15% tax
on the real capital gain in case the shares were purchased after December 31,
2002, and in case the shares were purchased before that date the sale will be
subject to a blended tax  in which the
portion of the gain accrued until December 31, 2002 will be exempt from Israeli
capital gains tax and the portion of the real gain accrued from January 1, 2003
until the date of sale will be subject to 15% tax.  The taxable real gain will be based on the difference between the
adjusted average value of the shares during the last three trading days before
January 1, 2003 (or the adjusted original cost if it is higher than the
adjusted average value) and the value of the shares at the date of sale.  In the event the above calculation create a
loss; such loss can only be offset against capital gain from other traded
securities according to the provisions of the Israeli law.  The amount of the loss is limited to the
difference between the adjusted average value and the value of the shares at
the date of sale.  However, such payers
of Israeli tax shall be subject to 25% tax on the real capital gain in the case
that they deduct interest expenses and linkage differences.

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Notwithstanding
the foregoing, dealers in securities in Israel and companies taxed under the
Inflationary Adjustment Law or are entitled to maintain books in foreign
currency are taxed at regular tax rates applicable to business income.

Notwithstanding
the above, securities that are defined as foreign securities that are sold
prior to January 1, 2007 shall be subject to 35% tax on the real capital gain.  Foreign securities that are bought prior to
January 1, 2007 and sold after January 1, 2007 shall be subject to 35% capital
gains tax on the real gains accrued until January 1, 2007 and 15% capital gains
tax on the real gains accrued thereafter. 
However, according to new tax legislation our ordinary shares are not
considered foreign traded securities.

Generally
under the amendment losses from tradable shares by payers of Israeli tax who
are not subject to the Inflationary Adjustments Law or have the right to
maintain books in foreign currency can be offset with gains from the same
source (e.g., sales of foreign securities, sales of securities that are not
foreign securities).  Such losses can be
carried forward indefinitely.

In
addition, since our ordinary shares are traded on a Stock Exchange outside of
Israel, gains on the sale of ordinary shares held by non-Israeli tax resident
investors will be exempt from Israeli capital gains tax, provided, inter alia,
that such capital gains are not by a permanent establishment in Israel, that such
shareholders did not acquire their shares prior to the public offering and that
the shareholders are not subject to the Inflationary Adjustment law or are
entitle to maintain books in foreign currency all subject to the provision of
the Israeli tax legislation.

Under
the convention between the government of the United States of America and the
government of Israel with respect to taxes on income, the sale, exchange or
disposition of ordinary shares by a person who qualifies as a resident of the
United States within the meaning of the U.S.- Israel tax treaty and who is
entitled to claim the benefits afforded to the person by the U.S.-Israel tax
treaty generally will not be subject to the Israeli capital gains tax unless
certain exceptions apply, including where the U.S. resident holds, directly or
indirectly, shares representing 10% or more of our voting power during any part
of the 12-month period preceding the sale, exchange or disposition of the
shares subject to certain conditions.  A
sale, exchange or disposition of ordinary shares by a treaty U.S. resident who
holds, directly or indirectly, shares representing 10% or more of our voting
power at any time during the preceding 12-month period would be subject to
Israeli tax, to the extent applicable unless the aforementioned exemption from
capital gains tax for shares listed on a Stock Exchange outside of Israel
applies.  However, in any case, under
the U.S.-Israel tax treaty and the Israeli tax law a treaty U.S. resident will
be subject to capital gains tax in Israel, the U.S. resident would be permitted
to claim a credit for the taxes against the U.S. federal income tax imposed
with respect to the sale, exchange or disposition, subject to the limitations
in U.S. laws applicable to foreign tax credits.  The U.S.-Israel tax treaty does not relate to U.S. state or local
taxes.

Taxation
of Non-Resident Holders of Shares.  Non-residents of Israel are subject to income tax on income
accrued or derived from sources in Israel. 
Under the amendment, capital gain is deemed to accrue or derive in
Israel in the case of sale of shares of an Israeli company (see above in
Section Capital Gains Tax on Sales of Our Ordinary Shares).

Non-residents
of Israel are subject to 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, such as income received for services rendered in Israel.  On distribution of dividends other than
bonus shares, income tax is withheld at source, at the rate of 25%, (or 12.5%
for dividends not generated by an approved enterprise if the non-resident is a
U.S. corporation and holds at least 10% of our voting power throughout a
certain period, and 15% for dividends generated by an approved enterprise),
unless in each case a different rate is provided in a treaty between Israel and
shareholders country of residence. 
Under the U.S.-Israel tax treaty, the maximum tax on dividends paid to a
holder of ordinary shares who is a U.S. resident will be 25%.  However, under the Investment Law, dividends
generated by an approved enterprise are taxed at the rate of 15%.

Foreign
Exchange Regulations. We are permitted to pay in Israeli and
non-Israeli currency:

| |  | dividends to holders of our ordinary shares; and                                                          
| | - | ----------------------------------------------------------------------------------------------------------
| |   |                                                                                                           
| |  | any amounts payable with respect to our ordinary
  shares upon our dissolution, liquidation or winding up.

If
we make any payments in Israeli currency, the payments may be converted into
freely repatriable dollars at the rate of exchange prevailing at the time of
conversion.

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Material
United States Federal Income Consequences

The
following is a summary of the material United States federal income tax
consequences of the acquisition, ownership and disposition of our ordinary
shares by United States holders.  This
summary is based upon the United States Internal Revenue Code of 1986, as
amended, applicable Treasury regulations promulgated and proposed under the
Internal Revenue Code, judicial authority and current administrative rulings
and practices, all of which are subject to change, possibly with retroactive
effect or different interpretations.  We
have not sought any ruling from the United States Internal Revenue Service with
respect to the matters discussed below, and we cannot provide any assurance
that the IRS or a court will agree with our conclusions.  The discussion below assumes that you will
hold the ordinary shares as capital assets.

THE
FOLLOWING SUMMARY IS INCLUDED HEREIN FOR GENERAL INFORMATION AND IS NOT
INTENDED TO BE, AND SHOULD NOT BE CONSTRUED TO BE, LEGAL OR TAX ADVICE.  ACCORDINGLY, EACH UNITED STATES HOLDER IS
URGED TO CONSULT A TAX ADVISOR WITH RESPECT TO THE U.S. FEDERAL, STATE, LOCAL
OR NON-U.S. TAX CONSEQUENCES OF HOLDING AND DISPOSING OF ORDINARY SHARES.

This
discussion is not a comprehensive description of all of the tax consequences
that may be relevant to United States holders of ordinary shares, and you
should consult your professional advisor as to the tax consequences of the
acquisition, ownership and disposition of our ordinary shares.  In particular, this discussion does not
address your tax treatment if you are subject to special tax rules under United
States federal income tax law, for example, if you are:

| |  | a bank, insurance company or other financial
  institution, or financial services entity,                                                                                                                                  
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |   |                                                                                                                                                                                                                              
| |  | a regulated investment company, real estate
  investment trust or grantor trust,                                                                                                                                             
| |   |                                                                                                                                                                                                                              
| |  | a broker or dealer in securities or foreign
  currency,                                                                                                                                                                      
| |   |                                                                                                                                                                                                                              
| |  | a person who has a functional currency other than
  the United States dollar,                                                                                                                                                
| |   |                                                                                                                                                                                                                              
| |  | a person who acquires ordinary shares in connection
  with employment or other performance of services, or who acquires ordinary
  shares in the form of bonus shares from us,                                               
| |   |                                                                                                                                                                                                                              
| |  | a person subject to alternative minimum tax,                                                                                                                                                                                 
| |   |                                                                                                                                                                                                                              
| |  | a person who owns, or is deemed to own, at least 10%
  or more, by voting power or value, of our shares,                                                                                                                     
| |   |                                                                                                                                                                                                                              
| |  | a person who owns ordinary shares as part of a straddle,
  hedging transaction, conversion transaction, 
  constructive sale transaction or other risk-reduction transaction for
  United States federal income tax purposes,
| |   |                                                                                                                                                                                                                              
| |  | a tax-exempt entity, or                                                                                                                                                                                                      
| |   |                                                                                                                                                                                                                              
| |  | an expatriate or former long-term resident of the
  United States.                                                                                                                                                           

Further,
this description does not address any United States federal estate and gift tax
consequences, nor any state, local or foreign tax consequences relating to the
acquisition, ownership and disposition of our ordinary shares.  If a partnership or other entity taxable as
a partnership for U.S. federal income tax purposes holds common stock, the U.S.
federal income tax treatment of a partner will generally depend on the status
of the partner and the activities of the partnership.  Such partners are urged to consult their tax advisors.

For
purposes of this discussion, you are a United States holder if you are:

(i)     a
citizen or resident of the United States, including an alien individual who is a
lawful permanent resident of the United States or meets the substantial
presence residency test under United States federal income tax laws,

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(ii)     a
corporation or other entity treated as a corporation for United States federal
income tax purposes, which is created or organized in or under the laws of the
United States, any of its states or the District of Columbia, unless otherwise
provided by Treasury regulations,

(iii)     an
estate the income of which is subject to United States federal income taxation
regardless of its source,

(iv)     a
trust if a court within the United States is able to exercise primary
supervision over the administration of the trust and one or more United States persons
have the authority to control all substantial decisions of the trust, or
electing trusts in existence on August 20, 1996 to the extent provided in
Treasury regulations, or

(v)     any
person otherwise subject to United States federal income tax on a net income
basis in respect of ordinary shares, and if your status as a United States
holder is not overridden pursuant to the provisions of an applicable tax
treaty.

Your
initial income tax basis in any ordinary shares that you acquire will be the
U.S. dollar amount that you paid for the ordinary shares, or the U.S. dollar
equivalent of the fair market value of any property, including foreign
currency, you exchanged for the ordinary shares as of the date of exchange.

Taxation
of OTI

In
general, we will be subject to U.S. federal income tax only to the extent we
have income which has its source in the U.S. or is effectively connected with a
U.S. trade or business.  We anticipate
that we will derive substantially all of our income from foreign sources and
that none of our income will be effectively connected with a U.S. trade or
business, except perhaps for some income from our U.S. subsidiary.  In addition, we anticipate that any U.S.
source investment income we derive will come from investments the interest on
which will be exempt from U.S. federal income taxation.

Distributions

We
do not at this time anticipate paying any dividends.  But, if we do distribute property to you in the future, then
subject to the discussion below under Passive Foreign Investment Company
Considerations, the following rules regarding distributions will generally
apply.

Distributions
you receive from us with respect to your ordinary shares, including any related
tax withheld by Israel, will constitute dividends for United States federal
income tax purposes to the extent paid out of our current or accumulated
earnings and profits as determined for United States federal income tax
purposes.  To the extent that a
distribution exceeds our available earnings and profits, it will be treated as
a nontaxable return of capital to the extent of your adjusted tax basis in the
ordinary shares (reducing such adjusted tax basis dollar for dollar), and
thereafter as capital gain.

Dividends
you receive generally will be treated as foreign source dividend income and
will not be eligible for the dividends-received deduction allowed to corporate
shareholders under the Internal Revenue Code.

For
a temporary period beginning with taxable years beginning in 2003 and ending
with taxable years beginning after December 31, 2008, qualified dividend income
will generally be subject to a maximum U.S. federal income tax rate of 15% for
non-corporate United States holders. 
Because our shares trade on the NASDAQ Small Cap Market, any dividends
we, in the year we pay a dividend or in the prior year, pay to you during that
period should generally constitute qualified dividend income to you , unless we
are or become a foreign investment company, foreign personal holding company,
or a passive foreign investment company, a circumstance described below under
Passive Foreign Investment Company Consideration.  Due to the nature of our operations and/or ownership, we do not
believe we are, or are likely to become, a foreign investment company or
foreign personal holding company.  If
our beliefs concerning our foreign investment company or foreign personal
holding company status are correct, and if we are not a passive foreign
investment company, dividend distributions with respect to our shares should be
treated as qualified dividend income, subject to the United States holder
satisfying holding period and other requirements described below.  A United States holder will not be entitled
to the preferential rate:  (a) if the
U.S. holder has not held the ordinary shares or ADRs for at least 61 days of
the 120 day period beginning on the date which is 60 days before the
ex-dividend date, or (b) to the extent the U.S. holder is under an obligation
to make related payments on substantially similar property.  Any days during which the U.S. holder has
diminished its risk of loss on our shares are not counted towards meeting the
61-day holding period.  Based on IRS New
Release 4004-22, the IRS intends to give current effect to proposed legislation
changing the aforementioned 120 day period to a 121 day period.  Finally, U.S. holders who elect to treat the
dividend income as investment income pursuant to section 163(d)(4) of the
Code will not be eligible for the preferential rate of taxation.

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The
amount of any distribution we make to you will equal the fair market value in
United States dollars of the Israeli Shekels or other property you receive,
including the amount of any related withheld tax, on the date of distribution,
which, in the case of a distribution paid in Israeli Shekels will be based on
the exchange rate on the date of your receipt. 
For United States federal income tax purposes, you will have a basis in
any Israeli Shekels you receive equal to the dollar value of the Israeli
Shekels on the date of payment.  Any
gain or loss that you recognize upon a subsequent disposition of these Israeli
Shekels will generally be ordinary income or loss.

The
Israeli withholding tax will generally be treated for United States federal
income tax purposes as a foreign tax that you may claim as a foreign tax credit
against your United States federal income tax liability, subject to limitations
generally applicable to foreign tax credits. 
For example, dividends distributed by us will generally be categorized
as passive income or, in the case of some holders, as financial services
income, for purposes of computing allowable foreign tax credits for United
States federal income tax purposes.  In
general, you may not claim a foreign tax credit with respect to a category of
income in excess of the United States federal income tax otherwise payable with
respect to that category of income.  For
purposes of this determination, you would be required to adjust the amount of
any qualified dividend income we pay to you, while such dividends are subject
to the 15% maximum tax rate described above, to account for the difference
between the 15% maximum tax rate and ordinary U.S. federal income tax rates.  You may carry back any excess foreign tax
credits to the two preceding tax years and then carry any remaining excess
credits forward five subsequent tax years to reduce your United States federal
income tax payable on foreign source income in the same category that is not
otherwise offset by a foreign tax credit. 
The consequences of the separate limitation calculation will depend on
the nature and sources of your income and the deductions allocable to that
income. You should consult with your tax advisor regarding the use of foreign
tax credits.

In
lieu of claiming a credit, you may claim all foreign tax that you paid during a
particular taxable year as an itemized deduction.  Unlike a credit, a deduction does not reduce your United States
federal income tax on a dollar for dollar basis.  The deduction, however, is not subject to the category
limitations described above regarding foreign tax credits.  You are urged to consult your own tax
advisor concerning whether you are eligible for benefits under the United
States-Israel tax treaty, whether, and to what extent, a foreign tax credit
will be available with respect to dividends received from us, and the treatment
of any foreign currency gain or loss on any Israeli Shekels received with
respect to the shares that are not converted into United States dollars on the
date the Israeli Shekels are actually or constructively received.

Sale or
other Taxable Disposition Exchange of Our Ordinary Shares

Subject
to the discussion below under Passive Foreign Investment Company
Considerations, the following rules regarding dispositions will generally
apply.

In
general, you will recognize gain or loss upon the sale, exchange, redemption or
other taxable disposition of an ordinary share equal to your amount realized in
the disposition less your adjusted income tax basis in the ordinary share.  Your amount realized is the amount of cash
and the fair market value of property received, including or the United States
dollar value on the date of the disposition of the amount realized in Israeli
Shekels.  Your adjusted income tax basis
in an ordinary share is discussed above.

Gain
or loss recognized upon the sale, exchange, redemption or other taxable
disposition of an ordinary share will generally be capital gain or loss, and
will generally be long-term capital gain or loss if your holding period in the
disposed of ordinary shares exceeds one year. 
Special rates of tax apply to long-term capital gains recognized by
non-corporate United States holders. 
Under most circumstances, your gain or loss will be treated as United
States source income for United States foreign tax credit purposes.

Passive
Foreign Investment Company Considerations

Special
United States federal income tax rules apply to a United States holder who owns
shares of a corporation that was at any time during the United States holders
holding period a passive foreign investment company, commonly known by its
acronym (a PFIC).  A non-United States
corporation will be classified as a PFIC for United States federal income tax
purposes in any taxable year in which, after applying look-through rules for
lower tier affiliates, either (1) at least 75% of its gross income is passive
income, or (2) at least 50% of the gross value of its assets is attributable
to assets that produce passive income or are held for the production of passive
income.  Passive income for this purpose
generally includes dividends, interest, royalties, rents and gains from
commodities and securities transactions.

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Based
on our estimated gross income, the average value of our gross assets (assuming
that we are entitled to value our intangible assets using the methods suggested
for publicly traded corporations) and the nature of our business, we believe
there is only a small chance that we will be a PFIC for our current taxable
year and in the foreseeable future. 
Since PFIC status is a factual determination that must be made annually
and is therefore subject to change, our status in current and future years
depends on our assets and activities in those years.  Because the market price of our ordinary shares is likely to
fluctuate and because the market price of the shares of technology companies
has been especially volatile, we cannot assure you whether or not we will be
considered a PFIC for any taxable year. 
Also, because PFIC status is in part based on facts on and through
December 31 of each year, it is not possible to determine whether we will have
become a PFIC for a calendar year until after the close of the year, when we
finalize our financial information on and through December 31.  In addition, we cannot provide any assurance
that the applicable tax law will not change in a manner which adversely affects
our PFIC determination.  If we were a
PFIC for a taxable year and you are a United States holder of our ordinary
shares at any point during that year, you generally could be subject to
interest charges and higher tax rates with respect to any gain from the sale or
exchange of, and certain distributions with respect to, your ordinary shares.

If
we are or become a PFIC, a United States holder of our ordinary shares could
make a variety of elections that may alleviate the tax consequences referred to
above.  However, it is expected that the
conditions necessary for making an election to treat us as a qualified electing
fund under the PFIC rules will not be available.  You should consult your tax advisor regarding our potential
status as a PFIC and the tax consequences to you that would arise if we were
treated as a PFIC.

Backup
Withholding and Information Reporting

If
you hold ordinary shares, you may be subject to information reporting and
backup withholding of United States federal income tax with respect to cash
payments in respect of dividends or the gross proceeds from dispositions.  The backup withholding rate is currently
28%.  However, you will not be subject
to backup withholding if you properly execute, under penalties of perjury, an
IRS Form W-9 or a substantially similar form in which you provide your correct
taxpayer identification number, certify that it is correct, certify that you
are a United States person, and certify as to one of the following conditions:
(1) you are not subject to backup withholding because you are a corporation or
come within another enumerated exempt category, (2) you have not been notified
by the IRS that you are subject to backup withholding, or (3) you have been
notified by the IRS that you are no longer subject to backup withholding.

If
you do not provide your correct taxpayer identification number on the IRS Form
W-9 or a substantially similar form, you may be subject to penalties imposed by
the IRS.  Unless you have established on
a properly executed IRS Form W-9 or a substantially similar form that you are a
corporation or come within another enumerated exempt category, dividends and
other payments paid to you during the taxable year, and the amount of tax
withheld, if any, will be reported to you and to the IRS.

Amounts
withheld under backup withholding are generally not an additional tax and may
be refunded or credited against your United States federal income tax
liability, provided you furnish the required information to the IRS.  You should consult your tax advisor as to
your qualification for exemption from backup withholding and the procedure for
obtaining that exemption.

The
above description is not intended to constitute a complete analysis of all tax
consequences relating to the ownership or disposition of our ordinary shares by
a United States holder.  You should
consult your own tax advisor concerning the tax consequences of your particular
situation, as well as any tax consequences that may arise under the laws of any
state, local, foreign, or other taxing jurisdiction.

F.      DIVIDENDS
AND PAGING AGENTS

Not applicable.

G.      STATEMENT
BY EXPERTS

Not applicable.

71

---

---

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.  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.  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 1-800-SEC-0330 for further information on the public
reference room.  A copy of each report
submitted in accordance with applicable United States law is also available for
public review at our principal executive offices.

In
addition, the Securities and Exchange Commission maintains an Internet website
at http://www.sec.gov that contains reports, proxy
statements, information statements and other material that are filed through
the Securities and Exchange Commissions Electronic Data Gathering, Analysis
and Retrieval, or EDGAR, system.

I.      SUBSIDIARY
INFORMATION

Not applicable.

ITEM
11.          QUANTITATIVE AND
QUALITATIVE DISCLOSURES ABOUT MARKET RISK

For
disclosure regarding our market risk exposure, see Item
5.  Operating and Financial Review and Prospects above.

ITEM
12.          DESCRIPTION OF
SECURITIES OTHER THAN EQUITY SECURITIES

Not applicable.

72

---

---

PART
II

ITEM
13.          DEFAULTS,
DIVIDEND ARREARAGES AND DELINQUENCIES

There
are no defaults, dividend arrearages or delinquencies that are required to be
disclosed.

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

There
are no material modifications to, or qualifications of, the rights of security
holders that are required to be disclosed.

ITEM
15.          CONTROLS AND
PROCEDURES

Our
management evaluated, with the participation of our principal executive and
principal financial officers, the effectiveness of our disclosure controls and
procedures (as defined in Rules 13a-15(e) under the Securities Exchange Act of
1934, as amended (the Exchange Act), as of December 31, 2003.  Based on their evaluation, our principal
executive and principal financial officers concluded that our disclosure
controls and procedures were effective as of December 31, 2003.

There
has been no change in our internal control over financial reporting (as defined
in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during
our fiscal year ended December 31, 2003, that has materially affected, or is
reasonably likely to materially affect, our internal control over financial
reporting.

ITEM
16A.          AUDIT COMMITTEE
FINANCIAL EXPERT

Our
board of directors has determined that [Raanan Ellran], a member of its audit
committee, is an audit committee financial expert, as defined by applicable SEC
regulations.

ITEM
16B.          CODE OF ETHICS

We have not adopted a written code
of ethics. The adoption of written codes of ethics is not a common practice for Israeli
companies such as ours. While we may choose to adopt a written code of ethics in the
future, we have not heretofore seen any need for one inasmuch as our corporate culture
effectively deters wrongdoing and promotes honest and ethical conduct, full, fair and
accurate disclosure, and compliance with applicable law.

ITEM
16C.          PRINCIPAL
ACCOUNTANT FEES AND SERVICES

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

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

73

---

---

Principal
Accountant Fees and Services

We
paid the following fees for professional services rendered by Luboshitz
Kasierer (An affiliate member of Ernst & Young International) and KPMG, for
the years ended December 31:

|                       |  | 2003           |     |  | 2002 |  
|---------------------- |  | -------------- | --- |  | ---- | -
|                       |  |                |     |  |      |  
|                       |  | (in thousands) |    
|                       |  |                |     |  |      |  
|Audit fees:            |  |                |     |  |      |  
|                       |  |                |     |  |      |  
|For Luboshitz Kasierer |  | $              | 443 |  |      | $
|                       |  |                |     |  |      |  
|For KPMG               |  |                | 16  |  |      |  
|                       |  |                |     |  |      |  
|                       |  | $              | 459 |  |      | $
|                       |  |                |     |  |      |  
|                       |  |                |     |  |      |  

The
audit fees for the years ended December 31, 2003 and 2002, were for
professional services rendered for the audits of our 2002 and 2001  annual consolidated financial statements,
review of consolidated quarterly financial statements of 2003 and 2002,
statutory audits of us and our subsidiaries, 
consents and assistance with review of documents filed with the SEC.

ITEM
16D.        RESERVED

ITEM
16E.        RESERVED

74

---

---

PART
III

ITEM
17.          FINANCIAL
STATEMENTS

We
have responded to Item 18.

ITEM
18.          FINANCIAL
STATEMENTS

Index to the Financial Statements of the Registrant

|Report of Independent Auditors                               | F-2     
|------------------------------------------------------------ | --------
|                                                             |         
|Consolidated Balance Sheets                                  | F-3     
|                                                             |         
|Consolidated Statements of Operations                        | F-4     
|                                                             |         
|Consolidated Statements of Changes in Shareholders
  Equity | F-5     
|                                                             |         
|Consolidated Statements of Cash Flows                        | F-6F-7 
|                                                             |         
|Notes to the Consolidated Financial Statements               | F-8F-52

ITEM
19.          EXHIBITS

|Exhibit No. |  | Description                                                                                                                                                  
|----------- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------
|            |  |                                                                                                                                                              
|1           |  | Articles of Association (incorporated by reference
  to Exhibit 3.1 to our Registration Statement on Form F-1, no. 333-90496).                               
|            |  |                                                                                                                                                              
|2           |  | Specimen share certificate (incorporated by
  reference to Exhibit 4.1 to our Registration Statement on Form F-1, no.
  333-90496).                          
|            |  |                                                                                                                                                              
|4           |  | Material agreements (incorporated by reference to
  Exhibits 10.110.49 to our amendment No. 1 to Registration Statement on Form F-1, File No.
  333-108770).
|            |  |                                                                                                                                                              
|8           |  | List of subsidiaries (incorporated by reference to
  Exhibit 21.1 to our Registration Statement on Form F-1, File No. 333-90496).                            
|            |  |                                                                                                                                                              
|10.1        |  | Consent of Luboshitz Kasierer, an affiliate member
  of Ernst & Young International                                                                          
|            |  |                                                                                                                                                              
|10.2        |  | Consent of Somekh Chaikin, a member of KPMG
  International                                                                                                  
|            |  |                                                                                                                                                              
|31.1        |  | Certification of Chief Executive Officer, pursuant
  to Section 302 of the Sarbanes-Oxley Act of 2002.                                                       
|            |  |                                                                                                                                                              
|31.2        |  | Certification of Chief Financial Officer, pursuant
  to Section 302 of the Sarbanes-Oxley Act of 2002.                                                       
|            |  |                                                                                                                                                              
|32.1        |  | Certification of Chief Executive Officer, pursuant
  to Section 906 of the Sarbanes-Oxley Act of 2002.                                                       
|            |  |                                                                                                                                                              
|32.2        |  | Certification of Chief Financial Officer, pursuant
  to Section 906 of the Sarbanes-Oxley Act of 2002.                                                       

---

75

---

---

On Track Innovations Ltd.

Consolidated Financial Statements
As of December 31, 2003

---

---

|                                                            | On Track
  Innovations Ltd.
  and its consolidated subsidiaries
|----------------------------------------------------------- | ---------------------------------------------------------------
|                                                            |                                                                
|Consolidated Financial Statements as of
  December 31, 2003 |                                                                
|                                                           

Contents

|                                                           | Page      
|---------------------------------------------------------- | ----------
|                                                           |           
|Independent Auditors Report                               | F-2       
|                                                           |           
|Consolidated Balance Sheets                                | F-3       
|                                                           |           
|Consolidated Statements of Operations                      | F-4       
|                                                           |           
|Consolidated Statements of Changes in Shareholders Equity | F-5       
|                                                           |           
|Consolidated Statements of Cash Flows                      | F-6 - F-7 
|                                                           |           
|Notes to the Consolidated Financial Statements             | F-8 - F-43

---

---

Independent Auditors Report to the Board of
Directors
and Shareholders of On Track Innovations Ltd.

We have audited the accompanying consolidated
balance sheet of On Track Innovations Ltd. and its subsidiaries (the Company)
as of December 31, 2003 and the related consolidated statements of operations,
changes in shareholders equity and cash flows for the year then ended. These
consolidated financial statements are the responsibility of the Companys
management.  Our responsibility is to
express an opinion on these consolidated financial statements based on our
audits.  The consolidated financial
statements of the Company as of December 31, 2001 and 2002 were audited by
other auditors, whose reports thereon dated March 28, 2003 expressed an
unqualified opinion.

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

In our opinion, the consolidated financial
statements referred to above present fairly, in all material respects, the
financial position of the Company and its subsidiaries as of December 31, 2003
and the results of their operations, their changes in shareholders equity and
their cash flows for the year then ended, in conformity with accounting
principles generally accepted in the United States of America.

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

March 19, 2004

---

---

ERNST
&YOUNG

REPORT
OF INDEPENDENT AUDITORS

To the Shareholders ofOn Track Innovations Ltd.

We have audited the accompanying consolidated balance sheets of On
Track Innovations Ltd. (the Company) and its subsidiaries as of December 31,
2001 and 2002 and the related consolidated statements of operations, changes in
shareholders equity and cash flows for each of the three years in the period
ended December 31, 2002. Our audits also included the financial statement schedule
listed at item 8. These financial statements are the responsibility of the
Companys management. Our responsibility is to express an opinion on these
financial statements based on our audits.

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

In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position
of the Company and its subsidiaries as of December 2001 and 2002 and the
consolidated results of their operations and cash flows for each of the three
years in the period ended December 31, 2002 in conformity with accounting
principles generally accepted in the United States.

As discussed in Note 2K to the consolidated financial statements, the
Company changed its method of accounting for goodwill and other intangible
assets, effective January 1, 2002, in accordance with the provisions of
Statement of Financial Accounting Standards No. 142 (SFAS 142) Goodwill and
Other Intangible Assets.

| | Luboshitz Kasierer                                
| | --------------------------------------------------
| | An affiliate member of Ernst & Young International

Tel-Aviv, Israel
March 28, 2003



---

---

|Consolidated Balance Sheets
|---------------------------
|                           

US dollars in thousands except per share data

|                                                                                                                                   |  |      |     | December 31 |  
|---------------------------------------------------------------------------------------------------------------------------------- |  | ---- | --- | ----------- | -
|                                                                                                                                   |  |      |     |             |  
|                                                                                                                                   |  | Note |     | 2002        |  
|                                                                                                                                   |  |      |     |             |  
|Assets                                                                                                                             |  |      |     |             |  
|Current assets                                                                                                                     |  |      |     |             |  
|Cash and cash equivalents                                                                                                          |  |      | (3  | )           | $
|Short-term investments                                                                                                             |  |      | (4  | )           |  
|Trade receivables (net of allowance for
  doubtful
   accounts of $244 and $282 as of December 31, 2002
   and 2003, respectively) |  |      |     |             |  
|Other receivables and prepaid expenses                                                                                             |  |      | (5  | )           |  
|Inventories                                                                                                                        |  |      | (6  | )           |  
|                                                                                                                                   |  |      |     |             |  
|                                                                                                                                   |  |      |     |             |  
|Total current assets                                                                                                               |  |      |     |             |  
|                                                                                                                                   |  |      |     |             |  
|                                                                                                                                   |  |      |     |             |  
|Severance Pay Deposits Fund                                                                                                        |  |      | (12 | )           |  
|                                                                                                                                   |  |      |     |             |  
|Property, Plant and Equipment,
  Net                                                                                               |  |      | (8  | )           |  
|                                                                                                                                   |  |      |     |             |  
|Other Intangible Assets, Net                                                                                                       |  |      | (7E | )           |  
|                                                                                                                                   |  |      |     |             |  
|Goodwill                                                                                                                           |  |      | (2K | )           |  
|                                                                                                                                   |  |      |     |             |  
|                                                                                                                                   |  |      |     |             |  
|                                                                                                                                   |  |      |     |             |  
|Total assets                                                                                                                       |  |      |     |             | $
|                                                                                                                                   |  |      |     |             |  

---

---

| | On Track
  Innovations Ltd.
  and its consolidated subsidiaries
| | ---------------------------------------------------------------
| |                                                                
|

|                                                                                                                                                                                                                                                           |  |  |      |   | December 31 |        
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  |  | ---- | - | ----------- | -------
|                                                                                                                                                                                                                                                           |  |  |      |   |             |        
|                                                                                                                                                                                                                                                           |  |  | Note |   | 2002        |        
|                                                                                                                                                                                                                                                           |  |  |      |   |             |        
|                                                                                                                                                                                                                                                           |  |  |      |   |             |        
|Liabilities
  and Shareholders Equity                                                                                                                                                                                                                     |  |  |      |   |             |        
|Current Liabilities                                                                                                                                                                                                                                        |  |  |      |   |             |        
|Short-term bank credit and current
  maturities
   of long-term bank loans                                                                                                                                                                                 |  |  | (10C | ) | $           | 2,520  
|Trade payables                                                                                                                                                                                                                                             |  |  |      |   |             | 2,176  
|Other current liabilities                                                                                                                                                                                                                                  |  |  | (9   | ) |             | 2,175  
|                                                                                                                                                                                                                                                           |  |  |      |   |             |        
|Total current liabilities                                                                                                                                                                                                                                  |  |  |      |   |             | 6,871  
|                                                                                                                                                                                                                                                           |  |  |      |   |             |        
|                                                                                                                                                                                                                                                           |  |  |      |   |             |        
|Long-Term Liabilities                                                                                                                                                                                                                                      |  |  |      |   |             |        
|Long-term loans, net of current maturities                                                                                                                                                                                                                 |  |  | (10A | ) |             | 4,006  
|Convertible notes                                                                                                                                                                                                                                          |  |  | (11  | ) |             | 169    
|Deferred revenues                                                                                                                                                                                                                                          |  |  |      |   |             | 716    
|Accrued severance pay                                                                                                                                                                                                                                      |  |  | (12  | ) |             | 1,216  
|                                                                                                                                                                                                                                                           |  |  |      |   |             |        
|Total long-term liabilities                                                                                                                                                                                                                                |  |  |      |   |             | 6,107  
|                                                                                                                                                                                                                                                           |  |  |      |   |             |        
|                                                                                                                                                                                                                                                           |  |  |      |   |             |        
|Total liabilities                                                                                                                                                                                                                                          |  |  |      |   |             | 12,978 
|                                                                                                                                                                                                                                                           |  |  |      |   |             |        
|                                                                                                                                                                                                                                                           |  |  |      |   |             |        
|Commitments and Contingencies                                                                                                                                                                                                                              |  |  | (13  | ) |             |        
|                                                                                                                                                                                                                                                           |  |  |      |   |             |        
|Shareholders Equity                                                                                                                                                                                                                                       |  |  | (14  | ) |             |        
|Ordinary shares of NIS 0.1 par value:
  Authorized 
   5,000,000 and 10,000,000 shares as
   of December 31, 2002 and 2003, respectively;
   issued and outstanding - 1,817,156 and 4,778,715 shares
   as of December 31, 2002 and 
  2003, respectively |  |  |      |   |             | 52     
|Additional paid-in capital                                                                                                                                                                                                                                 |  |  |      |   |             | 48,147 
|Deferred stock compensation                                                                                                                                                                                                                                |  |  |      |   |             | (1,115 
|Accumulated other comprehensive income                                                                                                                                                                                                                     |  |  |      |   |             | 201    
|Accumulated deficit                                                                                                                                                                                                                                        |  |  |      |   |             | (36,244
|                                                                                                                                                                                                                                                           |  |  |      |   |             |        
|                                                                                                                                                                                                                                                           |  |  |      |   |             |        
|Total shareholders equity                                                                                                                                                                                                                                 |  |  |      |   |             | 11,041 
|                                                                                                                                                                                                                                                           |  |  |      |   |             |        
|                                                                                                                                                                                                                                                           |  |  |      |   |             |        
|Total
  liabilities and shareholders equity                                                                                                                                                                                                               |  |  |      |   | $           | 24,019 
|                                                                                                                                                                                                                                                           |  |  |      |   |             |        

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

F-3

---

---

|                                                  | On Track
  Innovations Ltd.
  and its consolidated subsidiaries
|------------------------------------------------- | ---------------------------------------------------------------
|                                                  |                                                                
|Consolidated Financial Statements of
  Operations |                                                                
|                                                 

US dollars in thousands except per share data

|                                                                                                                  |  |  |      |   | Year ended December 31 |          
|----------------------------------------------------------------------------------------------------------------- |  |  | ---- | - | ---------------------- | ---------
|                                                                                                                  |  |  |      |   |                        |          
|                                                                                                                  |  |  | Note |   | 2001                   |          
|                                                                                                                  |  |  |      |   |                        |          
|Revenues                                                                                                          |  |  | (18  | ) |                        |          
|Products                                                                                                          |  |  |      |   | $                      | 18,217   
|Non-recurring engineering                                                                                         |  |  |      |   |                        | 500      
|Licensing and transaction fees                                                                                    |  |  |      |   |                        | 495      
|Customer service and technical support                                                                            |  |  |      |   |                        | 676      
|                                                                                                                  |  |  |      |   |                        |          
|Total revenues                                                                                                    |  |  |      |   |                        | 19,888   
|                                                                                                                  |  |  |      |   |                        |          
|                                                                                                                  |  |  |      |   |                        |          
|Cost
  of Revenues                                                                                                |  |  |      |   |                        |          
|Products                                                                                                          |  |  |      |   |                        | 10,727   
|Non-recurring engineering                                                                                         |  |  |      |   |                        | 20       
|Customer service and technical support                                                                            |  |  |      |   |                        | 491      
|                                                                                                                  |  |  |      |   |                        |          
|Total cost of revenues                                                                                            |  |  |      |   |                        | 11,238   
|                                                                                                                  |  |  |      |   |                        |          
|                                                                                                                  |  |  |      |   |                        |          
|Gross profit                                                                                                      |  |  |      |   |                        | 8,650    
|                                                                                                                  |  |  |      |   |                        |          
|                                                                                                                  |  |  |      |   |                        |          
|Operating Expenses                                                                                                |  |  |      |   |                        |          
|Research and development                                                                                          |  |  |      |   |                        | 6,768    
|Less - participation by the Office of the
   Chief Scientist                                                      |  |  |      |   |                        | 599      
|                                                                                                                  |  |  |      |   |                        |          
|Research and development, net                                                                                     |  |  |      |   |                        | 6,169    
|Selling and marketing                                                                                             |  |  |      |   |                        | 6,585    
|General and administrative                                                                                        |  |  |      |   |                        | 4,668    
|Amortization of goodwill and intangible
  assets                                                                  |  |  |      |   |                        | 1,124    
|Other expenses                                                                                                    |  |  | (15  | ) |                        | 340      
|                                                                                                                  |  |  |      |   |                        |          
|Total
  operating expenses                                                                                        |  |  |      |   |                        | 18,886   
|                                                                                                                  |  |  |      |   |                        |          
|                                                                                                                  |  |  |      |   |                        |          
|Operating
  loss                                                                                                  |  |  |      |   |                        | (10,236  
|Financial income (expenses), net                                                                                  |  |  |      |   |                        | 71       
|Other expenses, net                                                                                               |  |  | (15  | ) |                        | (1,581   
|                                                                                                                  |  |  |      |   |                        |          
|Loss
  before income taxes                                                                                        |  |  |      |   |                        | (11,746  
|Tax benefit (expense)                                                                                             |  |  | (16  | ) |                        | 47       
|                                                                                                                  |  |  |      |   |                        |          
|                                                                                                                  |  |  |      |   |                        | (11,699  
|Minority interest                                                                                                 |  |  |      |   |                        | 15       
|                                                                                                                  |  |  |      |   |                        |          
|Net
  loss                                                                                                        |  |  |      |   | $                      | (11,684  
|                                                                                                                  |  |  |      |   |                        |          
|                                                                                                                  |  |  |      |   |                        |          
|Basic and diluted net loss per ordinary
  share                                                                   |  |  |      |   | $                      | (7.49    
|                                                                                                                  |  |  |      |   |                        |          
|                                                                                                                  |  |  |      |   |                        |          
|Weighted average number of ordinary
   shares used in computing basic and 
   diluted net loss per ordinary share |  |  |      |   |                        | 1,559,490
|                                                                                                                  |  |  |      |   |                        |          

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

F-4

---

---

|                                                             | On Track Innovations Ltd.
  and its consolidated subsidiaries
|------------------------------------------------------------ | -------------------------------------------------------------
|                                                             |                                                              
|Consolidated Statements of
  Changes in Shareholders Equity |                                                              
|                                                            

US dollars in thousands except per share data

|                                                                                                           |  | Number of
  Shares |           | Share
  capital |   | Additional
  paid-in
  capital |  | Deferred
  stockCompensation |        | Accumulatedother
  comprehensiveincome |   | Accumulateddeficit |   | Total
  shareholdersequity |    
|---------------------------------------------------------------------------------------------------------- |  | ------------------ | --------- | --------------- | - | ------------------------------ |  | ---------------------------- | ------ | -------------------------------------- | - | ------------------ | - | --------------------------- | ---
|                                                                                                           |  |                    |           |                 |   |                                |  |                              |        |                                        |   |                    |   |                             |    
|                                                                                                           |  |                    |           |                 |   |                                |  |                              |        |                                        |   |                    |   |                             |    
|Balance as of January
  1, 2001                                                                            |  |                    | 1,499,769 |                 | $ | 45                             |  | $                            | 42,312 |                                        | $ | (850               | ) | $                           | 9  
|                                                                                                           |  |                    |           |                 |   |                                |  |                              |        |                                        |   |                    |   |                             |    
|Issuance
  of shares for the acquisition of
   49% of the InterCard Group, net of
   issuance costs of $84 |  |                    | 88,075    |                 |   | 2                              |  |                              | 2,511  |                                        |   | -                  |   |                             | -  
|Exercise
  of options                                                                                      |  |                    | 1,467     |                 |   | *                              |  |                              | -      |                                        |   | -                  |   |                             | -  
|Amortization of deferred stock compensation                                                                |  |                    | -         |                 |   | -                              |  |                              | -      |                                        |   | 309                |   |                             | -  
|Other
  comprehensive income- foreign
   currency translation adjustments                                  |  |                    | -         |                 |   | -                              |  |                              | -      |                                        |   | -                  |   |                             | 28 
|Net
  loss                                                                                                 |  |                    | -         |                 |   | -                              |  |                              | -      |                                        |   | -                  |   |                             | -  
|                                                                                                           |  |                    |           |                 |   |                                |  |                              |        |                                        |   |                    |   |                             |    
|                                                                                                           |  |                    |           |                 |   |                                |  |                              |        |                                        |   |                    |   |                             |    
|Balance as of December
  31, 2001                                                                          |  |                    | 1,589,311 |                 | $ | 47                             |  | $                            | 44,823 |                                        | $ | (541               | ) | $                           | 37 
|                                                                                                           |  |                    |           |                 |   |                                |  |                              |        |                                        |   |                    |   |                             |    
|Deferred
  stock compensation                                                                              |  |                    | -         |                 |   | -                              |  |                              | 2,182  |                                        |   | (2,182             | ) |                             | -  
|Exercise
  of options                                                                                      |  |                    | 227,845   |                 |   | 5                              |  |                              | -      |                                        |   | -                  |   |                             | -  
|Amortization of deferred stock compensation                                                                |  |                    | -         |                 |   | -                              |  |                              | -      |                                        |   | 1,608              |   |                             | -  
|Stock
  options granted to consultants                                                                     |  |                    | -         |                 |   | -                              |  |                              | 1,058  |                                        |   | -                  |   |                             | -  
|Beneficial
  conversion feature on
   convertible notes                                                    |  |                    | -         |                 |   | -                              |  |                              | 42     |                                        |   | -                  |   |                             | -  
|Warrants
  issued in connection with the
   issuance of convertible notes                                  |  |                    | -         |                 |   | -                              |  |                              | 42     |                                        |   | -                  |   |                             | -  
|Other
  comprehensive income - foreign
   currency translation adjustments                                 |  |                    | -         |                 |   | -                              |  |                              | -      |                                        |   | -                  |   |                             | 164
|Net
  loss                                                                                                 |  |                    | -         |                 |   | -                              |  |                              | -      |                                        |   | -                  |   |                             | -  
|                                                                                                           |  |                    |           |                 |   |                                |  |                              |        |                                        |   |                    |   |                             |    
|                                                                                                           |  |                    |           |                 |   |                                |  |                              |        |                                        |   |                    |   |                             |    
|Balance as of
  December 31, 2002                                                                          |  |                    | 1,817,156 |                 | $ | 52                             |  | $                            | 48,147 |                                        | $ | (1,115             | ) | $                           | 201
|                                                                                                           |  |                    |           |                 |   |                                |  |                              |        |                                        |   |                    |   |                             |    
|Deferred
  stock compensation, net                                                                         |  |                    | -         |                 |   | -                              |  |                              | 2,039  |                                        |   | (2,039             | ) |                             | -  
|Amortization
  of deferred stock
   compensation                                                           |  |                    | -         |                 |   | -                              |  |                              | -      |                                        |   | 1,897              |   |                             | -  
|Stock
  option granted to consultants                                                                      |  |                    | -         |                 |   | -                              |  |                              | 927    |                                        |   | -                  |   |                             | -  
|Exercise
  of options and warrants                                                                         |  |                    | 864,856   |                 |   | 19                             |  |                              | 265    |                                        |   | -                  |   |                             | -  
|Conversion
  of a loan to options in June                                                                  |  |                    | -         |                 |   | -                              |  |                              | 465    |                                        |   | -                  |   |                             | -  
|Conversion
  of convertible promissory
   note in November                                                 |  |                    | 52,000    |                 |   | 1                              |  |                              | 249    |                                        |   | -                  |   |                             | -  
|Issuance
  of shares and detachable warrants,
   net of issuance expenses of $1,204                        |  |                    | 2,044,703 |                 |   | 47                             |  |                              | 7,873  |                                        |   | -                  |   |                             | -  
|Other
  comprehensive income - foreign
   currency translation adjustments                                 |  |                    | -         |                 |   | -                              |  |                              | -      |                                        |   | -                  |   |                             | 86 
|Net
  loss                                                                                                 |  |                    | -         |                 |   | -                              |  |                              | -      |                                        |   | -                  |   |                             | -  
|                                                                                                           |  |                    |           |                 |   |                                |  |                              |        |                                        |   |                    |   |                             |    
|                                                                                                           |  |                    |           |                 |   |                                |  |                              |        |                                        |   |                    |   |                             |    
|Balance as of
  December 31, 2003                                                                          |  |                    | 4,778,715 |                 | $ | 119                            |  | $                            | 59,965 |                                        | $ | (1,257             | ) | $                           | 287
|                                                                                                           |  |                    |           |                 |   |                                |  |                              |        |                                        |   |                    |   |                             |    

(*)   Represents
an amount lower than $1.

|                                           |  | Year ended December 31 |        
|------------------------------------------ |  | ---------------------- | -------
|                                           |  |                        |        
|                                           |  | 2001                   |        
|                                           |  |                        |        
|Total comprehensive
  loss:                |  |                        |        
|Net
  loss                                 |  | $                      | (11,684
|Foreign
  currency translation adjustments |  |                        | 28     
|                                           |  |                        |        
|Total
  comprehensive loss                 |  | $                      | (11,656
|                                           |  |                        |        

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

F-5

---

---

|                                        | On Track
  Innovations Ltd.
  and its consolidated subsidiaries
|--------------------------------------- | ---------------------------------------------------------------
|                                        |                                                                
|Consolidated Statements of Cash
  Flows |                                                                
|                                       

US dollars in thousands except per share data

|                                                                                                        |  | Year ended
  December 31 |        
|------------------------------------------------------------------------------------------------------- |  | ------------------------ | -------
|                                                                                                        |  |                          |        
|                                                                                                        |  | 2001                     |        
|                                                                                                        |  |                          |        
|Cash flows
  from operating activities                                                                  |  |                          |        
|Net
  loss                                                                                              |  | $                        | (11,684
|Adjustments
  required to reconcile net loss to
   net cash provided by (used in) operating activities: |  |                          |        
|Amortization
  of deferred stock compensation                                                           |  |                          | 309    
|Stock
  options granted to consultants                                                                  |  |                          | -      
|Loss
  (gain) on sale of property and equipment                                                         |  |                          | (6     
|Amortization
  of goodwill and intangible assets                                                        |  |                          | 1,124  
|Dissolution
  of a subsidiary of the InterCard Group                                                    |  |                          | 340    
|Depreciation                                                                                            |  |                          | 988    
|Amortization
  of beneficial conversion feature on convertible notes                                    |  |                          | -      
|Accrued
  severance pay, net                                                                            |  |                          | (376   
|Minority
  interest in losses (earnings) of subsidiaries                                                |  |                          | (15    
|Other                                                                                                   |  |                          | (36    
|Decrease
  (increase) in short-term investments                                                         |  |                          | (61    
|Decrease
  (increase) in trade receivables                                                              |  |                          | 744    
|Decrease
  in other receivables and prepaid expenses                                                    |  |                          | 1,192  
|Decrease
  in inventories                                                                               |  |                          | 112    
|Increase
  (decrease) in trade payables                                                                 |  |                          | (83    
|Increase
  (decrease) in other current liabilities                                                      |  |                          | (270   
|Decrease
  in long-term deferred revenues                                                               |  |                          | (7     
|                                                                                                        |  |                          |        
|Net
  cash provided by (used in) operating activities                                                   |  |                          | (7,729 
|                                                                                                        |  |                          |        
|                                                                                                        |  |                          |        
|Cash flows
  from investing activities                                                                  |  |                          |        
|Acquisition
  of the InterCard Group                                                                    |  |                          | (301   
|Proceeds
  from sale of property and equipment                                                          |  |                          | 14     
|Purchase
  of property and equipment                                                                    |  |                          | (2,639 
|                                                                                                        |  |                          |        
|Net
  cash used in investing activities                                                                 |  |                          | (2,926 
|                                                                                                        |  |                          |        
|                                                                                                        |  |                          |        
|Cash flows
  from financing activities                                                                  |  |                          |        
|Increase
  (decrease) in short-term bank credit, net                                                    |  |                          | (582   
|Proceeds
  from issuance of shares and detachable warrants,
   net of issuance expenses                 |  |                          | -      
|Proceeds
  from long-term bank loans                                                                    |  |                          | 3,952  
|Repayment
  of long-term bank loans                                                                     |  |                          | (2,257 
|Exercise
  of options                                                                                   |  |                          | -      
|Proceeds
  from issuance of convertible notes                                                           |  |                          | -      
|Proceeds
  from issuance of warrants in connection with the
   issuance of convertible notes            |  |                          | -      
|Proceeds
  allocated to beneficial conversion feature on convertible notes                              |  |                          | -      
|                                                                                                        |  |                          |        
|Net
  cash provided by (used in) financing activities                                                   |  |                          | 1,113  
|                                                                                                        |  |                          |        
|Effect
  of exchange rate changes on cash                                                               |  |                          | (26    
|                                                                                                        |  |                          |        
|                                                                                                        |  |                          |        
|Increase
  (decrease) in cash and cash equivalents                                                      |  | $                        | (9,568 
|Cash and cash
  equivalents at the beginning of the year                                                |  |                          | 15,598 
|                                                                                                        |  |                          |        
|Cash and cash
  equivalents at the end of the year                                                      |  | $                        | 6,030  
|                                                                                                        |  |                          |        

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

F-6

---

---

|                                               | On Track Innovations Ltd.and
  its consolidated subsidiaries
|---------------------------------------------- | ------------------------------------------------------------
|                                               |                                                             
|Consolidated Statements of Cash Flows (contd) |                                                             
|                                              

US dollars in thousands except per share data

|                                                                                    |  | Year ended
  December 31 |      
|----------------------------------------------------------------------------------- |  | ------------------------ | -----
|                                                                                    |  |                          |      
|                                                                                    |  | 2001                     |      
|                                                                                    |  |                          |      
|Supplementary
  cash flows activities:                                              |  |                          |      
|                                                                                    |  |                          |      
|A.   Cash
  paid during the period for:                                             |  |                          |      
|Interest                                                                            |  | $                        | 438  
|Income taxes                                                                        |  | $                        | 15   
|                                                                                    |  |                          |      
|                                                                                    |  |                          |      
|B.   Non-cash transactions:                                                         |  |                          |      
|Issuance of
  shares in consideration for acquisition of:                           |  |                          |      
|49% of the
  InterCard Group                                                        |  | $                        | 2,513
|Acquisition
  of 39% of EasyPark Israel shares through
   assumption of liabilities |  | $                        | -    
|                                                                                    |  |                          |      
|Long-term loan received in
  consideration for equity
   Interest in subsidiaries   |  | $                        | 595  
|                                                                                    |  |                          |      
|Issuance expenses                                                                   |  | $                        | -    
|                                                                                    |  |                          |      

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

F-7

---

---

On Track Innovations Ltd.
and its consolidated subsidiaries

|Notes to the Consolidated Financial Statements
|----------------------------------------------
|                                              

US dollars in thousands except per share data

Note 1 - General

|                                         | On Track
  Innovations Ltd. (the Company) was founded in 1990, in Israel. The Company
  and its subsidiaries (together the Group) are principally engaged in the
  field of design and development of contactless microprocessor-based smart
  card systems. The Companys ordinary shares were traded on the Neuer Markt in
  Germany until February 3, 2002 after which, the shares were listed on the new
  Prime Standard Market of the Frankfurt Stock Exchange. Commencing November
  2002, the Companys shares were also listed for trading on NASDAQ.                                                                  
|---------------------------------------- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|Note 2 - Significant Accounting Policies
|                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|                                         | The financial
  statements have been prepared in accordance with accounting principles
  generally accepted in the United States of America (US GAAP). The
  significant accounting policies followed in the preparation of the financial
  statements, applied on a consistent basis are:                                                                                                                                                                                                                                                                                                                                        
|                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|                                         | A.          Use of
  estimates                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|                                         | The
  preparation of consolidated 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
  consolidated financial statements and the reported amounts of revenues and
  expenses during the reporting years. Actual results may differ from these
  estimates.                                                                                                                                              
|                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|                                         | B.          Financial
  statements in U.S. dollars                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|                                         | The
  financial statements of the Company and certain of its subsidiaries have been
  prepared in U.S. dollars, as the currency of the primary economic environment
  in which the operations of the Company and certain of its subsidiaries are
  conducted is the U.S. dollar. Substantially all of the Companys and certain
  of its subsidiaries sales are in U.S. dollars. A significant portion of
  purchases of materials and components and most marketing costs are denominated
  in U.S. dollars. Therefore, the functional and reporting currency of the
  Company and certain of its subsidiaries is the U.S. dollar.
|                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|                                         | Transactions
  and balances denominated in dollars are presented at their original amounts.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         

F-8

---

---

|Note 2 - Significant Accounting Policies (contd)
|-------------------------------------------------
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 

F-9

---

---

|Note 2 - Significant Accounting Policies (contd)
|-------------------------------------------------
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 

| |                                                          |  | 2002 |     | 2003 |  
| | -------------------------------------------------------- |  | ---- | --- | ---- | -
| |                                                          |  |      |     |      |  
| |                                                          |  |      |     |      |  
| | Allowance
  for doubtful accounts at beginning of
  year |  | $    | 64  |      | $
| | Additions
  charged to bad debt expense                  |  |      | 258 |      |  
| | Write-downs
  charged against the allowance              |  |      | (78 | )    |  
| |                                                          |  |      |     |      |  
| |                                                          |  |      |     |      |  
| | Allowance
  for doubtful accounts at end of year         |  | $    | 244 |      | $
| |                                                          |  |      |     |      |  

| | H.          Inventories                                                                                                                                                                                                                                                           
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |                                                                                                                                                                                                                                                                                   
| | Inventories
  are stated at the lower of cost or market. Inventory write-offs are provided
  to cover risks arising from slow moving items or technological obsolescence.
  Such write-offs are not material for 2001, 2002 and 2003, and has been
  included in cost of revenues.
| |                                                                                                                                                                                                                                                                                   
| | Cost is
  determined as follows:                                                                                                                                                                                                                                                  
| |                                                                                                                                                                                                                                                                                   
| | Raw
  materials - first in, first out (FIFO) method.                                                                                                                                                                                                                            
| |                                                                                                                                                                                                                                                                                   
| | Finished
  products and work in progress - on the basis of manufacturing costs,
  including materials, labor, direct and indirect production expenses using the
  FIFO method.                                                                                                    

F-10

---

---

|Note 2 - Significant Accounting Policies (contd)
|-------------------------------------------------
|                                                 
|                                                 
|                                                 
|                                                 

| |                                                   |  | Years | 
| | ------------------------------------------------- |  | ----- | 
| |                                                   |  |       | 
| |                                                   |  |       | 
| | Leasehold
  land                                  |  | 49    | 
| | Buildings                                         |  | 25    | 
| | Computers,
  software and manufacturing equipment |  | 3-5   | 
| | Office
  furniture and equipment                  |  | 5-16  | 
| | Motor
  vehicles                                  |  | 6     | 

| | J.          Impairment
  of long-lived assets                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
| | The
  Companys long-lived assets (including intangible assets) are reviewed for
  impairment in accordance with SFAS No. 144 Accounting for the Impairment or
  Disposal of Long- Lived Assets, whenever events or changes in circumstances
  indicate that the carrying amount of an asset may not be recoverable.  Recoverability of an asset to be held and
  used is measured by a comparison of the carrying amount of the asset to the
  future undiscounted cash flows expected to be generated by the asset.  If such asset is considered to be impaired,
  the impairment to be recognized is measured by the amount by which the
  carrying amount of the asset exceeds its fair value.  As of December 31, 2003, no impairment
  losses have been identified.                                                                                                                                                         
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
| | K.          Goodwill                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
| | In July
  2001, the Financial Accounting Standards Board issued Statements of Financial
  Accounting Standards No. 141, Business Combinations (SFAS No. 141) and
  No. 142, Goodwill and Other Intangible Assets (SFAS No. 142). SFAS No.
  141 requires all business combinations initiated after June 30, 2001, to be
  accounted for using the purchase method. Under SFAS No. 142, goodwill and
  intangible assets with indefinite lives are no longer amortized but are
  reviewed annually (or more frequently if impairment indicators arise) for
  impairment. All other intangible assets will continue to be amortized over
  their estimated useful lives. The provisions of SFAS No. 142 apply to
  goodwill and intangible assets acquired after June 30, 2001. With respect to
  goodwill and intangible assets acquired prior to June 1, 2001, the Company
  adopted SFAS No. 142 effective January 1, 2002.
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
| | In
  accordance with the provisions of SFAS No. 142, the Company evaluated its
  existing intangible assets as of January 1, 2002 and concluded that the
  purchase cost assigned to assembled workforce as part of the SoftChip Group
  acquisition in January 2000 and the purchase cost assigned to the assembled
  workforce as part of the InterCard Group acquisition in 2000 and 2001 do not
  meet the criteria for separate recognition as an intangible asset, and have
  therefore been reclassified as goodwill as of January 1, 2002.                                                                                                                                                                                                                                                                                                                                                                                  

F-11

---

---

|Note 2 - Significant Accounting Policies (contd)
|-------------------------------------------------
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 

F-12

---

---

|Note 2 - Significant Accounting Policies (Contd)
|-------------------------------------------------
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 
|                                                 

F-13

---

---

Note 2 - Significant Accounting Policies (Contd)

| | M.          Revenue
  recognition (contd)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
| | Technology license revenues are recognized
  in accordance with SAB No. 101, that was amended by SAB 104, at the time the
  technology and license is delivered to the customer, collection is probable,
  the fee is fixed and determinable, a persuasive evidence of an agreement
  exists, no significant obligation remains under the sale or licensing
  agreement and no significant customer acceptance requirements exist after delivery
  of the technology.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
| | Transaction fees are recognized as earned
  based on usage. Usage is determined by receiving confirmation from the users.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
| | Revenues relating to customer services and
  technical support are recognized as the services are rendered ratably over
  the term of the related contract.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
| | N.          Research
  and development costs                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
| | Research and development costs are charged
  to operations as incurred. The Company has evaluated the establishment of
  technological feasibility of its products in accordance with SFAS No. 86,
  Accounting for the Costs of Computer Software to Be Sold, Leased or
  Otherwise Marketed. Based on the Companys product development process,
  technological feasibility is established upon completion of a working model.
  Costs incurred by the Company between completion of the working models and
  the point at which the products are ready for general release have been
  insignificant. Therefore, all research and development costs have been
  expensed.                                                                                                                                                                                                                                                                                                                                                                                                             
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
| | O.          Government
  grants                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
| | The Company
  and one of its subsidiaries receive royalty bearing participation, which
  represents participation of the Government of Israel (Office of the Chief
  Scientist - OCS) in approved programs for research and development.  These amounts are recognized on the
  accrual basis as a reduction of research and development costs as such costs
  are incurred.  Royalties to the OCS
  are recorded in cost of sales.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
| | P.          Stock-based
  compensation                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
| | Employees                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
| | The Company has adopted SFAS No. 123,
  Accounting for Stock-Based Compensation which permits entities to recognize
  as an expense over the vesting period, the fair value on the date of grant of
  all stock-based awards. 
  Alternatively, SFAS No. 123 allows entities to continue to apply the
  provisions of Accounting Principles Board Opinion No. 25, Accounting for
  Stock Issued to Employees and related interpretations (APB No. 25) and
  provide pro forma net loss and pro forma loss per share disclosures for
  employee stock option grants as if the fair-value based method defined in
  SFAS No. 123 had been applied. 
  The Company has elected to continue to apply the provisions of APB
  No. 25, including FASB interpretation No. 44 Accounting for Certain
  Transactions Involving Stock Compensation - an Interpretation of APB No. 25
  and provide the pro forma disclosure provisions of SFAS No.  123, as amended by SFAS 148, Accounting
  for Stock-Based Compensation - Transition and Disclosure, an amendment of
  Statement No. 123.

F-14

---

---

|Note 2 -
  Significant Accounting Policies (contd)
|---------------------------------------------------
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   

| |                                                                                                        |  | Year ended December 31 |        
| | ------------------------------------------------------------------------------------------------------ |  | ---------------------- | -------
| |                                                                                                        |  |                        |        
| |                                                                                                        |  | 2001                   |        
| |                                                                                                        |  |                        |        
| |                                                                                                        |  |                        |        
| | Net loss as
  reported                                                                                 |  | $                      | (11,684
| | Deduct:
  Compensation expense according to
                APB
  25 included in the reported net loss |  |                        | 309    
| | Add:      Application of compensation expenses
                according
  to SFAS No. 123             |  |                        | (1,464 
| |                                                                                                        |  |                        |        
| |                                                                                                        |  |                        |        
| | Pro
  forma net loss                                                                                   |  | $                      | (12,839
| |                                                                                                        |  |                        |        
| | Basic and
  diluted net loss per share:                                                                |  |                        |        
| | As
  reported                                                                                          |  | $                      | (7.49  
| |                                                                                                        |  |                        |        
| |                                                                                                        |  |                        |        
| | Pro
  forma                                                                                            |  | $                      | (8.23  
| |                                                                                                        |  |                        |        

F-15

---

---

|Note 2 -
  Significant Accounting Policies (contd)
|---------------------------------------------------
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   

F-16

---

---

|Note 2 -
  Significant Accounting Policies (contd)
|---------------------------------------------------
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   

F-17

---

---

|Note 2 -
  Significant Accounting Policies (contd)
|---------------------------------------------------
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   
|                                                   

F-18

---

---

Note 3 - Cash and Cash Equivalents

| |                                                                                  |  | December 31 |      
| | -------------------------------------------------------------------------------- |  | ----------- | -----
| |                                                                                  |  |             |      
| |                                                                                  |  | 2002        |      
| |                                                                                  |  |             |      
| |                                                                                  |  |             |      
| | Cash in
  banks                                                                  |  | $           | 124  
| |                                                                                  |  |             |      
| | Bank
  deposits in U.S. dollars (2003 - bearing annual interest rate of
  0.68%) |  |             | 1,529
| | Bank
  deposits in Euro                                                          |  |             | 199  
| | Bank
  deposits in NIS (2003 - bearing annual interest rate of 3.1%)             |  |             | 293  
| |                                                                                  |  |             |      
| |                                                                                  |  |             |      
| |                                                                                  |  | $           | 2,145
| |                                                                                  |  |             |      

Note 4 - Short-Term Investments

| | Short-term investments comprise marketable
  bonds of the State of Israel (2003  bearing annual interest rate of 1.38%).
| | -------------------------------------------------------------------------------------------------------------------------
| |                                                                                                                          
| | As for liens, see Note 13C.                                                                                              

Note 5 - Other Receivables and Prepaid Expenses

| |                           |  | December 31 |    
| | ------------------------- |  | ----------- | ---
| |                           |  |             |    
| |                           |  | 2002        |    
| |                           |  |             |    
| |                           |  |             |    
| | Government
  institutions |  | $           | 351
| | Prepaid
  expenses        |  |             | 103
| | Other
  receivables       |  |             | 384
| |                           |  |             |    
| |                           |  |             |    
| |                           |  | $           | 838
| |                           |  |             |    

Note 6 - Inventories

| |                     |  | December 31 |      
| | ------------------- |  | ----------- | -----
| |                     |  |             |      
| |                     |  | 2002        |      
| |                     |  |             |      
| |                     |  |             |      
| | Raw
  materials     |  | $           | 2,576
| | Work in
  progress  |  |             | 484  
| | Finished
  products |  |             | 1,132
| |                     |  |             |      
| |                     |  |             |      
| |                     |  | $           | 4,192
| |                     |  |             |      

F-19

---

---

Note 7 - Acquisitions and Investments

| | A.          Softchip
  Technologies (3000) Ltd. / Softchip Israel Ltd.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
| | On January 28, 2000, the Company acquired
  two Israeli companies; SoftChip Israel Ltd. and SoftChip Technologies (3000)
  Ltd. (the SoftChip Group), after which the SoftChip Group entities became
  wholly owned subsidiaries of the Company. 
  The Company exchanged 12,119 of its publicly traded ordinary shares
  valued at approximately $1,259 according to the market price of the Companys
  share on the date of the transaction (being the purchase price), for all the
  outstanding shares of the SoftChip Group. 
  The SoftChip Group is a designer of microprocessors and operating
  systems for smart cards.                                                                                                                                                                                                                                                                                                                                          
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
| | The acquisition was accounted for as a
  purchase and the Company allocated the purchase price according to the fair
  value of assets acquired and liabilities assumed.  The excess of the purchase price over the fair value of net
  tangible assets acquired and liabilities assumed of approximately $1,171 was
  recorded as intangibles being mainly assembled workforce ($991) and
  technology ($180), which up to December 31, 2001 were amortized over a period
  of five years on a straight-line basis. 
  As of January 1, 2002, the Company adopted the provisions of SFAS No.
  142 - see Note 2K.                                                                                                                                                                                                                                                                                                                                                            
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
| | As part of the acquisition of the SoftChip
  Group, the Company granted the chief executive officer of the SoftChip Group,
  options to purchase 10,000 shares of the Company at a price of $30.00 per
  share. The options vest in five equal annual instalments commencing February
  2001.  In accordance with EITF 95-8
  Accounting for Contingent Consideration Paid to the Shareholders of an
  Acquired Enterprise in a Purchase, these options are not considered as part
  of the purchase price, and the Company has accordingly recorded a deferred
  stock compensation in the amount of $730 to be amortized over the vesting
  period which is five years.  As of
  December 31, 2003, none of these options were exercised.                                                                                                                                                                                                                                 
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
| | B.          Intercard
  Gmbh Kartensysteme/Intercard Gmbh Systemelectronic                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
| | On June 15, 2000, the Company acquired a
  51% equity interest in InterCard GmbH Kartensysteme and InterCard GmbH
  Systemelectronic (the InterCard Group) in consideration for ordinary shares
  of the Company having a fair value of DM5 million (approximately $2.4
  million) (being the purchase price). The DM 5 million consideration was paid
  in five equal monthly installments of the Companys ordinary shares valued at
  DM 1 million each at the time of transfer followed by a sixth installment
  such that the total number of shares transferred in each installment
  multiplied by the average closing price of the Companys shares on the Neuer
  Markt of the Frankfurt Stock Exchange for the twenty days immediately
  following each installment, equals DM 5 million.  Pursuant to this transaction, in June 2000, the Company issued
  an aggregate of 39,317 ordinary shares which were held in escrow for the
  purpose of these transfers.

F-20

---

---

|Note 7 -
  Acquisitions and Investments (contd)
|------------------------------------------------
|                                                
|                                                
|                                                
|                                                
|                                                
|                                                
|                                                
|                                                
|                                                
|                                                
|                                                
|                                                

F-21

---

---

|Note 7 -
  Acquisitions and Investments (contd)
|------------------------------------------------
|                                                
|                                                
|                                                
|                                                
|                                                
|                                                
|                                                
|                                                
|                                                
|                                                
|                                                
|                                                
|                                                
|                                                

F-22

---

---

|Note 7 -
  Acquisitions and Investments (contd)
|------------------------------------------------
|                                                
|                                                
|                                                
|                                                
|                                                
|                                                
|                                                
|                                                
|                                                
|                                                
|                                                
|                                                
|                                                
|                                                

F-23

---

---

Note 7 - Acquisitions and Investments (contd)

| | E. | Other intangible assets, net
| | -- | ----------------------------

| |                          |  | December 31 |    
| | ------------------------ |  | ----------- | ---
| |                          |  |             |    
| |                          |  | 2002        |    
| |                          |  |             |    
| |                          |  |             |    
| | Cost                     |  |             |    
| | Technology               |  | $           | 817
| |                          |  |             |    
| | Accumulated amortization |  |             |    
| | Technology               |  |             | 304
| |                          |  |             |    
| |                          |  |             |    
| |                          |  | $           | 513
| |                          |  |             |    

| | a. | Amortization expenses amounted to $98, $161
  and $ 188 for the years ended December 31, 2001, 2002 and 2003 ,
  respectively.                                                                                                 
| | -- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |    |                                                                                                                                                                                                                                
| | b. | During 2003, the Company purchased
  technology as part of its acquisition of EasyPark Israel (see Note 7D
  above).  The purchase has been
  recorded as acquired technology and will be amortized over a three year
  period.
| |    |                                                                                                                                                                                                                                
| | c. | Estimated amortization expenses for the
  years ending:                                                                                                                                                                        

| | December 31 |  |  |     |  | 
| | ----------- |  |  | --- |  | 
| |             |  |  |     |  | 
| | 2004        |  |  | 189 | 
| | 2005        |  |  | 75  | 
| | 2006        |  |  | 44  | 
| | 2007        |  |  | 17  | 
| | 2008        |  |  | -   | 

F-24

---

---

Note 7 - Acquisitions and Investments (contd)

| | F.                                                                                                                                                                                                           | Goodwill
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------ | --------
| |                                                                                                                                                                                                              |         
| | Had amortization of goodwill and intangible
  assets been accounted for in accordance with the method of SFAS 142, the
  Company net loss and basic and diluted loss per share would have been as
  follows:

| |                             |  | Year ended December 31 |        
| | --------------------------- |  | ---------------------- | -------
| |                             |  |                        |        
| |                             |  | 2001                   |        
| |                             |  |                        |        
| | Reported net
  loss         |  | $                      | (11,684
| | Goodwill
  amortization     |  |                        | 1,044  
| |                             |  |                        |        
| | Adjusted net
  loss         |  | $                      | (10,640
| |                             |  |                        |        
| | Net loss per
  share        |  |                        |        
| | Reported net loss per share |  | $                      | (7.49  
| | Goodwill amortization       |  |                        | 0.67   
| |                             |  |                        |        
| | Adjusted net loss per share |  | $                      | (6.82  
| |                             |  |                        |        

Note 8 - Property, Plant and Equipment, Net

| |                                                   |  | December 31 |       
| | ------------------------------------------------- |  | ----------- | ------
| |                                                   |  |             |       
| |                                                   |  | 2002        |       
| |                                                   |  |             |       
| | Cost                                              |  |             |       
| | Land                                              |  | $           | 71    
| | Leasehold
  land (1)                              |  |             | 263   
| | Buildings on
  leasehold land (1)                 |  |             | 4,470 
| | Buildings                                         |  |             | 334   
| | Computers,
  software and manufacturing equipment |  |             | 4,266 
| | Office
  furniture and equipment                  |  |             | 872   
| | Motor
  vehicles                                  |  |             | 501   
| |                                                   |  |             |       
| | Total cost                                        |  |             | 10,777
| |                                                   |  |             |       
| |                                                   |  |             |       
| | Accumulated depreciation                          |  |             |       
| | Buildings on
  leasehold land                     |  |             | 576   
| | Computers,
  software and manufacturing equipment |  |             | 2,876 
| | Office
  furniture and equipment                  |  |             | 511   
| | Motor
  vehicles                                  |  |             | 255   
| |                                                   |  |             |       
| | Total
  accumulated depreciation                  |  |             | 4,218 
| |                                                   |  |             |       
| | Depreciated
  cost                                |  | $           | 6,559 
| |                                                   |  |             |       

| | Depreciation expense for the years ended
  December 31, 2001, 2002 and 2003 was $988, $897 and $ 1,453,
  respectively.
| | -----------------------------------------------------------------------------------------------------------------------

F-25

---

---

Note 8 - Property, Plant and Equipment, Net (contd)

| | (1) | The
  leasehold land consists of two plots owned by the Israel Lands
  Administration.  Rights to leasehold
  land on the first plot extend over the original period of 49 years ending in
  the year 2041 with an option to extend for an additional 49 years, and on the
  second plot for a period of 49 years, which will end in the year 2047 with an
  option to extend for a further 49 years. 
  The Company commenced the construction of the building on this plot of
  land in 2000 and completed construction in 2002.  The amount includes payments on account of land development and
  payments of the capitalization of leasing payments.  The rent for the initial 49-year term of each of these leases
  was prepaid in its entirety at the beginning of the lease terms as is customary
  in Israel for leases of property for industrial purposes from the Israel
  Lands Authority.
| | --- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |     |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
| | (2) | As per liensSee Note 13C.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              

Note 9 - Other Current Liabilities

| |                                  |  | December 31 |      
| | -------------------------------- |  | ----------- | -----
| |                                  |  |             |      
| |                                  |  | 2002        |      
| |                                  |  |             |      
| |                                  |  |             |      
| | Employees
  and related expenses |  | $           | 816  
| | Accrued
  expenses               |  |             | 538  
| | Customers
  advances            |  |             | 370  
| | Other
  current liabilities      |  |             | 451  
| |                                  |  |             |      
| |                                  |  |             |      
| |                                  |  | $           | 2,175
| |                                  |  |             |      

Note 10 - Loans

| | A. | Composition of Long-Term Loans:
| | -- | -------------------------------

| |                           |  | December 31 |      
| | ------------------------- |  | ----------- | -----
| |                           |  |             |      
| |                           |  | 2002        |      
| |                           |  |             |      
| | Long-term loans           |  | $           | 5,532
| | Less - current maturities |  |             | 1,526
| |                           |  |             |      
| |                           |  |             |      
| |                           |  | $           | 4,006
| |                           |  |             |      

| | As of December 31, 2002, the loans are
  primarily from banks and are denominated in US dollars ($3,442),  ($1,578),
  and NIS ($512) and bear interest of approximately 4.3% - 10.8% per annum.   
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |                                                                                                                                                                                                     
| | As of December 31, 2003, the loans are
  primarily from banks and are denominated in US dollars ($2,328),  ($1,066),
  and NIS ($291) and bear interest of approximately 2.09% - 11.9%
  per annum.

F-26

---

---

Note 10 - Loans (contd)

| | B. | Repayments of Long-Term Loans Dates
  Subsequent to Balance Sheet Date:
| | -- | -----------------------------------------------------------------------

| | First year
  (current maturities) |  | $ | 564   | 
| | --------------------------------- |  | - | ----- | 
| | Second year                       |  |   | 1,202 | 
| | Third year                        |  |   | 825   | 
| | Fourth year                       |  |   | 407   | 
| | Fifth year
  and thereafter       |  |   | 687   | 
| |                                   |  |   |       | 
| |                                   |  |   |       | 
| |                                   |  | $ | 3,685 | 
| |                                   |  |   |       | 

| | C. | Composition of Short-Term Bank
  Credit and Current Maturities of Long-Term Loans:
| | -- | ----------------------------------------------------------------------------------

| |                                         |  | December 31   |      | December 31 | 
| | --------------------------------------- |  | ------------- | ---- | ----------- | 
| |                                         |  |               |      |             | 
| |                                         |  | 2002          |      | 2003        | 
| |                                         |  |               |      |             | 
| |                                         |  | %             |      | %           | 
| |                                         |  |               |      |             | 
| |                                         |  | Interest rate |      |             | 
| |                                         |  |               |      |             | 
| |                                         |  |               |      |             | 
| | In U.S. dollars                         |  |               | 8.2  |             | 
| | In New Israeli shekels                  |  |               | -    |             | 
| | In Euro                                 |  |               | 10.3 |             | 
| |                                         |  |               |      |             | 
| |                                         |  |               |      |             | 
| | Current maturities of
  long-term loans |  |               |      |             | 
| |                                         |  |               |      |             | 
| |                                         |  |               |      |             | 
| |                                         |  |               |      |             | 

| | The percentage weighted average interest
  rate for the years ended December 31, 2002 and 2003 were 9.8% and 10.1%,
  respectively.
| | -----------------------------------------------------------------------------------------------------------------------------------
| |                                                                                                                                    
| | D.                                                                                                                                 
| |                                                                                                                                    
| | E.                                                                                                                                 

F-27

---

---

Note 11 - Convertible Notes

|                        | On December 5, 2002, the Company issued
  $250 10% Redeemable Convertible Promissory Notes (the Notes) which may be
  converted into ordinary shares of the Company.  The entire principal balance was due on December 31, 2004 if
  not earlier converted.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|----------------------- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|                        |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|                        | In connection with the issuance of these
  Notes, the Company also issued detachable warrants to purchase an aggregate
  of 16,757 ordinary shares, at an exercise price of 120% of the average per
  share price for the ordinary shares for the ten (10) consecutive day trading
  period prior to the closing.  The
  warrants will expire on December 31, 2007.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|                        |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|                        | Upon the issuance of the Notes, the Company
  was required according to EITF No. 00-27 Application of Issue No. 98-5
  to Certain Convertible Instruments (EITF 00-27) to record a discount in
  the amount of approximately $42 which was to be amortized to financial
  expenses over a period of two years.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|                        |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|                        | According to EITF No. 98-5 Accounting for
  Convertible Securities with Beneficial Conversion Features or Contingently
  Adjustable Conversion Ratios (EITF 98-5), the warrants issued in
  connection with this note were accounted for under APB 14, Accounting for
  Convertible Debt and Debt Issued with Stock Purchase Warrants. Under APB 14,
  the fair value of the warrants was calculated using the Black-Scholes options
  pricing model with the following assumptions: a risk-free interest rate of
  2.5%, a dividend yield of 0%, a volatility of the expected market price of
  the Companys ordinary shares of 75% and a contractual life of 5 years.  The fair value of the warrants of $42 are
  offset from the convertible notes and presented as a component of additional
  paid in capital in the shareholders equity. 
  This discount represents the theoretical most beneficial conversion
  feature to the holder of the note measured at the issuance date of the note
  that is also the commitment date.
|                        |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|                        | In November 2003, pursuant to the receipt
  of a conversion notice, the Notes were converted into 52,000 ordinary shares.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|                        |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|                        | Upon the conversion of the Notes, the
  unamortized discount was fully amortized.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|                        |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|Note 12 - Severance Pay
|                        |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|                        | Severance
  pay expenses for the periods ended December 31, 2001, 2002 and 2003 amounted
  to approximately $262, $65 and $246, respectively.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   

F-28

---

---

Note 13 - Commitments and Contingencies

| | A.          Commitments
  and Contingencies:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
| | The Company and its Israeli subsidiary,
  EasyPark, have entered into several research and development agreements,
  pursuant to which the Company and EasyPark are obligated to pay royalties to
  the Government of Israel at a rate of 3% and 3.5% of sales of products in
  which the Government of Israel has participated in financing the research and
  development, up to the amounts granted (linked to the US dollar with annual
  interest at LIBOR as of the date of approval, for programs approved from
  January 1, 1999 and thereafter). 
  Repayment of such grants is not required in the event that there are
  no sales of products developed within the framework of such funded
  programs.  As at December 31, 2003,
  the total amount of grants received, net of royalties paid, was approximately
  $5,059.
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
| | Royalties paid or accrued amounted to $206,
  $188 and $199 for the years ended December 31, 2001, 2002 and 2003,
  respectively.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
| | B.          Leases                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
| | The Group operates from leased facilities
  in the United States, Germany and South Africa, leased for periods expiring
  in years 2004 through 2005.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
| | Minimum lease commitments of certain
  subsidiaries under operating lease agreements under non cancelable leases in
  respect of premises occupied by them, at rates in effect as of December 31,
  2003 are as follows:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              

| | 2004 |  | $ | 234 | 
| | ---- |  | - | --- | 
| | 2005 |  |   | 234 | 
| |      |  |   |     | 
| |      |  | $ | 468 | 
| |      |  |   |     | 

| | Rent expense amounted to $163, $218 and
  $201 for the years ended December 31, 2001, 2002 and 2003, respectively.                                                                                                   
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |                                                                                                                                                                                                                      
| | C.          Liens                                                                                                                                                                                                    
| |                                                                                                                                                                                                                      
| | There is a floating charge over the
  Companys motor vehicles, in favor of a bank and leasing companies to secure
  loans received.                                                                                 
| |                                                                                                                                                                                                                      
| | Short-term investments and leasehold land
  are pledged in favor of a bank in relation to both long-term and short-term
  borrowings, and the Company has recorded a floating charge on all of its
  tangible assets.
| |                                                                                                                                                                                                                      
| | The manufacturing facility has been pledged
  as security in respect of a loan received from a bank.                                                                                                                 

F-29

---

---

Note 13 - Commitments and Contingencies (contd)

|                                 | D.          Legal
  claims                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|-------------------------------- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|                                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|                                 | On September 3, 2003, Edi Wuhl (the
  Plaintiff), once an employee of the Company, filed a suit against the
  Company to the District Labor Court in Nazareth in the amount of NIS
  3,953,520.  The suit is based on the
  Plaintiffs claims that the Company has breached the employment agreement
  with him, and that the Company owes him commission payments for certain
  sales.  The Company considers the suit
  as groundless.  On December 17, 2003,
  the Company filed a statement of defense. 
  In the opinion of the Company, based on its legal advisors, the claims
  are without merit.  No provision in
  respect thereof has been included in the financial statements.
|                                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|Note 14 -
  Shareholders Equity
|                                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|                                 | A.          Share
  capital                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|                                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|                                 | 1.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|                                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|                                 | 2.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|                                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|                                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|                                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|                                 | 3.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             

F-30

---

---

|Note 14 -
  Shareholders Equity (contd)
|-----------------------------------------
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         

F-31

---

---

|Note 14 -
  Shareholders Equity (contd)
|-----------------------------------------
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         

F-32

---

---

|Note 14 - Shareholders Equity
  (contd)
|-----------------------------------------
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         

F-33

---

---

|Note 14 - Shareholders Equity
  (contd)
|-----------------------------------------
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         
|                                         

F-34

---

---

|Note 14 - Shareholders Equity
  (contd)
|-----------------------------------------
|                                         
|                                         
|                                         
|                                         

| |                                                                                          |  | Year ended December 31 |        
| | ---------------------------------------------------------------------------------------- |  | ---------------------- | -------
| |                                                                                          |  |                        |        
| |                                                                                          |  |                        | 2001   
| |                                                                                          |  |                        |        
| | Net loss as
  reported                                                                   |  | $                      | (11,684
| | Deduct:
  Compensation expense according to
    APB 25 included in the reported net loss |  |                        | 309    
| |                                                                                          |  |                        |        
| | Add:  Application of compensation
           expenses according to SFAS No. 123          |  |                        | (1,464 
| |                                                                                          |  |                        |        
| |                                                                                          |  |                        |        
| | Pro forma
  net loss                                                                     |  | $                      | (12,839
| |                                                                                          |  |                        |        
| | Basic and
  diluted net loss per share:                                                  |  |                        |        
| | As
  reported                                                                            |  | $                      | (7.49  
| |                                                                                          |  |                        |        
| | Pro
  forma                                                                              |  | $                      | (8.23  
| |                                                                                          |  |                        |        

| |  | The fair
  value of each option granted is estimated on the date of grant, using the
  Scholes-Scholes model using the following assumptions:
| |  | ---------------------------------------------------------------------------------------------------------------------------------------------
| |  |                                                                                                                                              
| |  | 1.                                                                                                                                           
| |  |                                                                                                                                              
| |  | 2.                                                                                                                                           
| |  |                                                                                                                                              
| |  | 3.                                                                                                                                           
| |  |                                                                                                                                              
| |  | 4.                                                                                                                                           

F-35

---

---

|Note 14 - Shareholders Equity
  (contd)
|-----------------------------------------
|                                         
|                                         
|                                         
|                                         

| |                                   |  |  | Number of
  options
  outstanding |   |   | Weighted
  average exercise
  price per share | 
| | --------------------------------- |  |  | --------------------------------- | - | - | --------------------------------------------- | 
| |                                   |  |  |                                   |   |   |                                               | 
| |                                   |  |  |                                   |   |   |                                               | 
| | Outstanding
  - January 1, 2001   |  |  | 82,447                            |   | $ | 66.10                                         | 
| | Options
  granted                 |  |  | 87,935                            |   |   | 28.30                                         | 
| | Options
  cancelled or forfeited  |  |  | (7,512                            | ) |   | 53.90                                         | 
| | Options
  exercised               |  |  | (1,467                            | ) |   | 0.10                                          | 
| |                                   |  |  |                                   |   |   |                                               | 
| | Outstanding
   December 31, 2001 |  |  | 161,403                           |   |   | 46.70                                         | 
| | Options
  granted                 |  |  | 838,971                           |   |   | 4.61                                          | 
| | Options
  cancelled or forfeited  |  |  | (6,885                            | ) |   | 50.18                                         | 
| | Options
  exercised               |  |  | (227,845                          | ) |   | 0.57                                          | 
| |                                   |  |  |                                   |   |   |                                               | 
| | Outstanding
   December 31, 2002 |  |  | 765,644                           |   |   | 14.30                                         | 
| | Options
  granted                 |  |  | 1,585,669                         |   |   | 1.59                                          | 
| | Options
  cancelled or forfeited  |  |  | (90,546                           | ) |   | 30.62                                         | 
| | Options
  exercised               |  |  | (817,356                          | ) |   | 0.41                                          | 
| |                                   |  |  |                                   |   |   |                                               | 
| | Outstanding
   December 31, 2003 |  |  | 1,443,411                         |   |   | 7.15                                          | 
| |                                   |  |  |                                   |   |   |                                               | 
| |                                   |  |  |                                   |   |   |                                               | 
| | Exercisable
  as of:              |  |  |                                   |   |   |                                               | 
| | December 31,
  2001               |  |  | 64,963                            |   | $ | 45.20                                         | 
| |                                   |  |  |                                   |   |   |                                               | 
| | December 31,
  2002               |  |  | 549,560                           |   | $ | 13.20                                         | 
| |                                   |  |  |                                   |   |   |                                               | 
| | December 31,
  2003               |  |  | 799,136                           |   | $ | 9.06                                          | 
| |                                   |  |  |                                   |   |   |                                               | 

F-36

---

---

|Note 14 - Shareholders Equity
  (contd)
|-----------------------------------------
|                                         
|                                         
|                                         
|                                         

| |                           |              | Options outstanding                               |         |  | Options Exercisable                                         |      | 
| | ------------------------- | ------------ | ------------------------------------------------- | ------- |  | ----------------------------------------------------------- | ---- | 
| |                           |              |                                                   |         |  |                                                             |      | 
| | Range of
  exercise price |              | Number
  outstanding
  as of
  December 31
  2003 |         |  | Weighted
  average
  remaining
  contractual
  life (years) |      | 
| |                           |              |                                                   |         |  |                                                             |      | 
| |                           |              |                                                   |         |  |                                                             |      | 
| | $                         | 0-0.02       |                                                   | 236,194 |  |                                                             | 5.02 | 
| |                           | 2.75         |                                                   | 475,667 |  |                                                             | 4.64 | 
| |                           | 3.25-4.78    |                                                   | 168,600 |  |                                                             | 4.78 | 
| |                           | 5.75-7.03    |                                                   | 148,100 |  |                                                             | 4.18 | 
| |                           | 8.21-9.89    |                                                   | 310,270 |  |                                                             | 7.37 | 
| |                           | 16.2-17.99   |                                                   | 9,000   |  |                                                             | 2.09 | 
| |                           | 25.92        |                                                   | 2,500   |  |                                                             | 1.51 | 
| |                           | 29.70-30.50  |                                                   | 48,680  |  |                                                             | 3.85 | 
| |                           | 39.13        |                                                   | 3,600   |  |                                                             | 2.91 | 
| |                           | 60.00-62.10  |                                                   | 27,000  |  |                                                             | 0.77 | 
| |                           | 68.80-72.10  |                                                   | 3,965   |  |                                                             | 0.30 | 
| |                           | 95.00-102.90 |                                                   | 9,835   |  |                                                             | 3.62 | 
| |                           |              |                                                   |         |  |                                                             |      | 
| |                           |              |                                                   |         |  |                                                             |      | 
| |                           |              | 1,443,411                                         |         |  | 5.11                                                        |      | 
| |                           |              |                                                   |         |  |                                                             |      | 

| | The amounts
  of deferred stock compensation recognized arising from the difference between
  the exercise price and the fair market value on the date of the grant of $0,
  $2,182 and $2,039 for options granted in the years ended December 31, 2001,
  2002 and 2003, respectively, are included in shareholders equity and are
  being amortized over the vesting periods of the respective options in
  accordance with APB 25.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |                                                                                                                                                                                                                                                                                                                                                                                                                                       
| | As of
  December 31, 2003, the number of options available for grant was 344,283.                                                                                                                                                                                                                                                                                                                                                     

F-37

---

---

|Note 14 - Shareholders Equity
  (contd)
|-----------------------------------------
|                                         
|                                         
|                                         
|                                         

| |                                                  |  | For
  exercise price on the grant date that: |     
| | ------------------------------------------------ |  | -------------------------------------------- | ----
| |                                                  |  |                                              |     
| |                                                  |  | Equals
  market price                        |     
| |                                                  |  |                                              |     
| |                                                  |  | Year ended
  December 31                     |     
| |                                                  |  |                                              |     
| |                                                  |  | 2001                                         |     
| |                                                  |  |                                              |     
| |                                                  |  |                                              |     
| | Weighted average
   exercise prices              |  | $                                            | 28.3
| | Weighted average
   fair values on
   grant date |  | $                                            | 16.5

| | D.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             | Warrants                    
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ----------------------------
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                             
| | The Company
  issued warrants in respect with investments made in the Company. The number
  of warrants issued by the Company as at December 31, 2003 and 2002 were
  1,553,957 and 143,432 respectively , with a per share weighted average
  exercise price of $5.95 and $9.609 respectively.                                                                                                                                                                                                                                                               
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                             
| | E.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             | Employee Share Purchase Plan
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                             
| | In 2001, the
  Company established an Employee Share Purchase Plan pursuant to which 67,500
  shares have been reserved for employees including the Companys subsidiaries
  who have been employed for at least six months. The purchase price of the
  shares will be 85% of the trading price on the date of purchase. As of the
  date of these financial statements, no shares have been issued to any
  employees under this plan.                                                                                                                      
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                             
| | F.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             | Dividends                   
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                             
| | The Company
  has never paid cash dividends to shareholders. The Company intends to retain
  future earnings for use in its business and does not anticipate paying cash
  dividends on its ordinary shares in the foreseeable future. Any future
  dividend policy will be determined by the Board of Directors and will be
  based upon conditions then existing, including results of operations,
  financial condition, current and anticipated cash needs, contractual
  restrictions and other conditions as the Board of Directors may deem
  relevant.

F-38

---

---

|Note 15 -
  Other Expenses
|--------------------------
|                          
|                          
|                          
|                          
|                          
|                          
|                          
|Note 16 -
  Income Taxes  
|                          
|                          
|                          
|                          
|                          
|                          
|                          
|                          

F-39

---

---

|Note 16 -
  Income Taxes (contd)
|---------------------------------
|                                 
|                                 
|                                 
|                                 
|                                 
|                                 
|                                 
|                                 
|                                 
|                                 
|                                 
|                                 
|                                 
|                                 
|                                 
|                                 

F-40

---

---

|Note 16 -
  Income Taxes (contd)
|---------------------------------
|                                 
|                                 
|                                 
|                                 
|                                 
|                                 
|                                 
|                                 
|                                 
|                                 

F-41

---

---

|Note 17 -
  Related Party Balances and Transactions |   
|--------------------------------------------------- | --
|                                                   
|                                                    | A.
|                                                    |   

| |                                            |  | December
  31 |    
| | ------------------------------------------ |  | ------------- | ---
| |                                            |  |               |    
| |                                            |  | 2002          |    
| |                                            |  |               |    
| |                                            |  |               |    
| | Assets                                     |  |               |    
| | Trade receivables                          |  | $             | 39 
| |                                            |  |               |    
| | Liabilities                                |  |               |    
| | Trade payables                             |  |               | 27 
| | Long-term loan (including current portion) |  |               | 429
| |                                            |  |               |    

| | B. | Transactions
| | -- | ------------

| |                      |  | Year ended
  December 31 |      
| | -------------------- |  | ------------------------ | -----
| |                      |  |                          |      
| |                      |  | 2001                     |      
| |                      |  |                          |      
| |                      |  |                          |      
| | Revenues             |  | $                        | 1,833
| | Costs and
  expenses |  |                          | 214  
| | Other income         |  |                          | -    

F-42

---

---

|Note 18 -
  Geographic Information and Major Customers
|------------------------------------------------------
|                                                      
|                                                      

| |                                                     |  | Year ended
  December 31 |       
| | --------------------------------------------------- |  | ------------------------ | ------
| |                                                     |  |                          |       
| |                                                     |  | 2001                     |       
| |                                                     |  |                          |       
| |                                                     |  |                          |       
| | Revenues by geographical areas
  of
  end customers |  |                          |       
| | North America                                       |  | $                        | 1,704 
| | Far East                                            |  |                          | 1,923 
| | Africa                                              |  |                          | 1,171 
| | Europe                                              |  |                          | 14,284
| | South America                                       |  |                          | 87    
| |                                                     |  |                          |       
| | Total export                                        |  |                          | 19,169
| | Domestic (Israel)                                   |  |                          | 719   
| |                                                     |  |                          |       
| |                                                     |  | $                        | 19,888
| |                                                     |  |                          |       

| |                                           |  | December
  31 |       
| | ----------------------------------------- |  | ------------- | ------
| |                                           |  |               |       
| |                                           |  | 2002          |       
| |                                           |  |               |       
| |                                           |  |               |       
| | Long lived assets by
  geographical areas |  |               |       
| | Israel                                    |  | $             | 5,836 
| | Germany                                   |  |               | 6,503 
| | Other                                     |  |               | 116   
| |                                           |  |               |       
| |                                           |  | $             | 12,455
| |                                           |  |               |       

|Note 19 -
  Subsequent Events
|-----------------------------
|                             
|                             

F-43



---

---

SIGNATURES

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

|                        | ON TRACK INNOVATIONS LTD.
|----------------------- | -------------------------
|                        |                          
|                        | By:                      
|                        |                          
|                        |                          
|                        |                          
|                        | By:                      
|                        |                          
|                        |                          
|                        |                          
|Date:  April 2 ,
  2004 |                          

76

---

---

EXHIBIT 4

Material
agreements (incorporated by reference to Exhibits 10.110.49 to our Amendment No. 1 to
Registration Statement on Form F-1, no. 333-108770).

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

|10.1 | Original
Section 102 Share Option Plan of the Registrant.**
|---- | -----------------------------------------------------------

|10.2 | Stock
Compensation Program and Stock Award Agreement of OTI America, Inc.*
|---- | --------------------------------------------------------------------------

|10.3 | Employment
Agreement, dated as of July 1, 1999, by and between Oded Bashan and the Registrant. **
|---- | -------------------------------------------------------------------------------------------------

|10.4 | Employment
Agreement, dated as of July 1, 1999, by and between Ronnie Gilboa and the Registrant. **
|---- | ---------------------------------------------------------------------------------------------------

|10.5 | Employment
Agreement, dated as of June 4, 2000, by and between Guy Shafran and the Registrant. **
|---- | -------------------------------------------------------------------------------------------------

|10.6 | Employment
Agreement, dated as of July 1, 1999, by and between Moshe Aduk and the Registrant. **
|---- | ------------------------------------------------------------------------------------------------

|10.7 | Employment
Agreement, dated as of July 1, 1999, by and between Nehemya Itay and the Registrant. **
|---- | --------------------------------------------------------------------------------------------------

|10.8 | Employment
Agreement, dated as of August 23, 1998, by and between Ohad Bashan and OTI America, Inc.
**
|---- | ------------------------------------------------------------------------------------------------------

|10.9 | PC
3 SCOS License Agreement, dated as of July 3, 1995, by and between Personal Computer Card
Corporation and the Registrant, as amended on November 1, 1997, August 24, 1998 and March
17, 1999, and extended by letter agreement dated September 12, 2000. **
|---- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|      |  |                                                                                                                                                                                                              
|----- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|10.10 |  | Software Escrow Agreement, dated as of March 16,
  1999, by and among Personal Cipher Card Corporation, Fort Knox Escrow
  Services, Inc. and OTI America, Inc.                                              
|      |  |                                                                                                                                                                                                              
|10.11 |  | License and Cooperation Agreement, dated as of May
  18, 1998, between Samsung Electronics Co. Ltd. and the Registrant.                                                                                      
|      |  |                                                                                                                                                                                                              
|10.12 |  | Acquisition Agreement, dated as of December 29,
  1999, by and among City Smart Ltd., Wong Ching Shan, City Smart (Australia)
  PTY Ltd. and the Registrant.                                                 
|      |  |                                                                                                                                                                                                              
|10.13 |  | Shareholders Agreement, dated as of February 2,
  2000, by and among Ocean Wonder Ltd., Sailor Group Ltd., Cheung Kong
  Infrastructure Holdings Ltd. and the Registrant.                                    
|      |  |                                                                                                                                                                                                              
|10.14 |  | Acquisition Agreement, dated as of January 28, 2000,
  by and among Softchip Israel Ltd., Softchip Technologies (3000) Ltd., Yael
  Cohen, Michael Cohen and the Registrant.                                 
|      |  |                                                                                                                                                                                                              
|10.15 |  | Acquisition Agreement, dated as of June 15, 2000, by
  and among Manfred Weise, Dennis Robert Weise, Patrick Norbert Weise, a civil
  partnership and the Registrant.                                        
|      |  |                                                                                                                                                                                                              
|10.16 |  | Put Option Agreement, dated as of June 15, 2000, by
  and among Manfred Weise, Dennis Robert Weise, Patrick Norbert Weise, a civil
  partnership and the Registrant.                                         
|      |  |                                                                                                                                                                                                              
|10.17 |  | Call Option Agreement, dated as of June 15, 2000, by
  and among Manfred Weise, Dennis Robert Weise, Patrick Norbert Weise, a civil
  partnership and the Registrant.                                        
|      |  |                                                                                                                                                                                                              
|10.18 |  | Share Pledge Agreement, dated as of June 15, 2000,
  by and among Manfred Weise, Dennis Robert Weise, Patrick Norbert Weise, a
  civil partnership and the Registrant.                                       
|      |  |                                                                                                                                                                                                              
|10.19 |  | Escrow Agreement with Respect to the Share Purchase
  Agreement, dated as of June 15, 2000, by and among Manfred Weise, Dennis
  Robert Weise, Patrick Norbert Weise, a civil partnership and the Registrant.
|      |  |                                                                                                                                                                                                              
|10.20 |  | Escrow Agreement with Respect to the Option
  Agreements, dated as of June 15, 2000, Weise, Dennis Robert Weise, Patrick
  Norbert Weise, a civil partnership and the Registrant.                            
|      |  |                                                                                                                                                                                                              
|10.21 |  | General Term and Conditions of Sale of OTI.                                                                                                                                                                  
|      |  |                                                                                                                                                                                                              
|10.22 |  | Lease, dated as of June 27, 1995, by and between the
  Israel Lands Authority and the Registrant.                                                                                                            
|      |  |                                                                                                                                                                                                              

77

---

---

Exhibit Description

10.23     Development
Agreement, dated as of December 7, 1998, by and between the Israel Lands Authority and
the        Registrant.**

10.24     Distribution
agreement, dated as of February 2, 2000, between e-Smart System Inc. (formerly Sailor
Group        Limited) and the Registrant.*

10.25     2001
Employee Share Purchase Plan of the Registrant.*

10.26     2001
Share Option Plan of the Registrant.*

10.27     Amendment
dated September 20, 2001 to Put Option Agreement, dated as of June 15, 2000, by and among
       Manfred Weise, Dennis Robert Weise, Patrick Norbert Weise, a civil partnership,
and the Registrant. **

10.28     Consulting
Agreement dated as of March, 2002 between the Registrant and Dionysos Investments Ltd.**

10.29     Long
Term Lease Agreement, dated as of March 6, 2002 by and between the Israel Lands Authority
and the        Registrant.*

10.30     Non-Exclusive
Financial Advisor Agreement, dated as of June 18, 2002, between Broadband Capital
       Management LLC and the Registrant.**

10.31     Consulting
Agreement, dated May 14, 2002 between Rockwood, Inc. and the Registrant.**

10.32     Application
to Approve a Trustee for an Option Plan pursuant to Section 102 of the Income Tax
Ordinance;        and Deed of Trust. **

10.33     Agreement
Relating to Termination of Certain Business Contacts, dated as of June 22, 2002 between
       E-Smart System Inc. and the Registrant.**

10.34     Subscription
Agreement (for 50,000 shares), dated as of June 27, 2003, by and between Goldstrand
       Investment Inc. and the Registrant. ***

10.35     Subscription
Agreement (for Additional 100,000 shares subject to the effectiveness of the registration
       statement), dated as of June 27, 2003, by and between Goldstrand Investment Inc.
and the Registrant. ***

10.36     Agreement
and Amendment, dated as of September 4, 2003, by and among Goldstrand Investment Inc.,
Seth        Fireman and the Registrant. ***

10.37     Registration
Rights Agreement, dated June 27, 2003 by and between Goldstrand Investments Inc. and the
       Registrant. ***

10.38     Warrant,
dated as of July 14, 2003, for the benefit of Goldstrand Investment Inc. ***

10.39     Irrevocable
Proxy, dated as of June 27, 2003, for the benefit of Oded Bashan. ***

10.40     Stock
and Warrant Purchase Agreement, dated as of July 10, 2003, by and between Herald
Investment Trust        PLC and the Registrant. ***

10.41     Subscription
Agreement, ,dated as of July 10,, 2003 by and between Herald Investment Trust PLC and the
       Registrant. ***

10.42     Registration
Rights Agreement, dated as of July 10, 2003, by and between Herald Investment Trust PLC
and        the Registrant. ***

10.43     Warrant,
dated as of July 10, 2003, for the benefit of Herald Investment Trust PLC. ***

10.44     Financial
Advisor Agreement, dated as of July 11, 2003 by and between Sands Brothers International
Ltd.        and the Registrant. ***

10.45     Warrant,
dated as of July 11, 2003, for the benefit of Sands Brothers International Ltd. ***

10.46     Warrant,
dated as of July 11, 2003, for the benefit of Sands Brothers International Ltd. ***

10.47     Warrant,
dated as of July 11, 2003, for the benefit of Alpine Capital Partners, Inc. ***

10.48     Note
and Warrant Purchase Agreement dated September 8, 2003, among Platinum Partners Value
Arbitrage        Fund, Platinum Global Macro Fund, West End Convertible Fund L.P., WEC
Partners LLC, and Michael H. Weiss        and the Registrant. ***

10.49     Agreement
and Amendment, dated as of September 24, 2003, among Platinum Partners Value Arbitrage
Fund,        Platinum Global Macro Fund, West End Convertible Fund L.P., WEC Partners
LLC, and Michael H. Weiss and        the Registrant. ****

+           Portions
of this Exhibit were omitted and have been filed separately with the Secretary of the
Commission pursuant to the Registrant's application requesting confidential treatment
under Rule          406 of the Securities Act, filed on September 19, 2000 and
supplemented on March 27, 2001.

*           Previously
filed with the Company's Registration Statement on Form F-1, filed on June 14, 2002.

**         Previously
filed with an amendment to the Company's  Registration Statement on Form F-1, filed   on
September 11, 2002.

***       Previously
filed with the Company's Registration Statement on Form F-1, filed on September 12,
  2003.

****     Previously
filed with an amendment to the Company's Registration Statement on Form F-1, filed    on
November 24, 2003.



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EXHIBIT 10.1

CONSENT
OF INDEPENDENT AUDITORS

We
consent to the incorporation by reference in the Registration Statements Form
S-8 (File No. 333-90496) pertaining to the On Track Innovations Ltd. 2001 Share
Option Plan, 2001 Employee Share Purchase Plan and 1995 Share Option Plan, and
Form F-3 (File No. 333-111770) of On Track Innovations Ltd. and its
subsidiaries and in the related Prospectus of our report dated March 28, 2003
with respect to the consolidated financial statements of On Track Innovations
Ltd. and its subsidiaries included in this Annual Report on Form 20-F for the
year ended December 31, 2003.

| | April 1, 2004    | Luboshitz
  Kasierer                                
| | ---------------- | ----------------------------------------------------
| |                  |                                                     
| | Tel-Aviv, Israel | An
  affiliate member of Ernst & Young International

78

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EXHIBIT 10.2

CONSENT
OF INDEPENDENT AUDITORS

We
consent to the incorporation by reference in the Registration Statement on Form
S-8, pertaining to the On Track Innovations Ltd. 2001 Share Option Plan, 2001
Employee Share Purchase Plan and 1995 Share Option Plan of our report dated
March 19, 2004 with respect to the consolidated balance sheet of On Track
Innovations Ltd. and its subsidiaries (the Company) as of December 31, 2003
and the related consolidated statements of operations, changes in shareholders
equity and cash flows for the year then ended included in the Companys Annual
Report on Form 20-F for the year ended December 31, 2003.

Somekh
Chaikin

A member
of KPMG International

Tel
Aviv, March 31, 2004

79

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EXHIBIT 31.1

CERTIFICATION

|   | I, Oded Bashan, certify that:                                                                                                                                                                                                                                                                                                   
|-- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   |                                                                                                                                                                                                                                                                                                                                 
|1. | I have reviewed this annual report on Form 20-F of
  On Track Innovations Ltd.;                                                                                                                                                                                                                                                 
|   |                                                                                                                                                                                                                                                                                                                                 
|2. | Based on my knowledge, this annual report does not
  contain any untrue statement of a material fact or omit to state a material
  fact necessary to make the statements made, in light of the circumstances
  under which such statements were made, not misleading with respect to the
  period covered by this annual report;
|   |                                                                                                                                                                                                                                                                                                                                 
|3. | Based on my knowledge, the financial statements, and
  other financial information included in this quarterly report, fairly present
  in all material respects the financial condition, results of operations and
  cash flows of the registrant as of, and for, the periods presented in this
  annual report;                
|   |                                                                                                                                                                                                                                                                                                                                 
|4. | The registrants other certifying officer and I are
  responsible for establishing and maintaining disclosure controls and
  procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the
  registrant and have:                                                                                               
|   |                                                                                                                                                                                                                                                                                                                                 
|   |                                                                                                                                                                                                                                                                                                                                 
|   |                                                                                                                                                                                                                                                                                                                                 
|   |                                                                                                                                                                                                                                                                                                                                 
|   |                                                                                                                                                                                                                                                                                                                                 
|   |                                                                                                                                                                                                                                                                                                                                 
|   |                                                                                                                                                                                                                                                                                                                                 
|5. | The registrants other certifying officer and I have
  disclosed, based on our most recent evaluation of internal control over
  financial reporting, to the registrants auditors and the audit committee of
  registrants board of directors (or persons performing the equivalent
  function):                              
|   |                                                                                                                                                                                                                                                                                                                                 
|   | a)                                                                                                                                                                                                                                                                                                                              
|   |                                                                                                                                                                                                                                                                                                                                 
|   | b)                                                                                                                                                                                                                                                                                                                              

Dated: April
2, 2004

| | By: | /s/ Oded Bashan                                          
| | --- | ---------------------------------------------------------
| |     |                                                          
| |     | Oded Bashan
       Chief Executive Officer of the Company

80

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EXHIBIT 31.2

CERTIFICATION

|   | I, Guy Shafran, certify that:                                                                                                                                                                                                                                                                                                   
|-- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   |                                                                                                                                                                                                                                                                                                                                 
|1. | I have reviewed this annual report on Form 20-F of
  On Track Innovations Ltd.;                                                                                                                                                                                                                                                 
|   |                                                                                                                                                                                                                                                                                                                                 
|2. | Based on my knowledge, this annual report does not
  contain any untrue statement of a material fact or omit to state a material
  fact necessary to make the statements made, in light of the circumstances
  under which such statements were made, not misleading with respect to the
  period covered by this annual report;
|   |                                                                                                                                                                                                                                                                                                                                 
|3. | Based on my knowledge, the financial statements, and
  other financial information included in this annual report, fairly present in
  all material respects the financial condition, results of operations and cash
  flows of the registrant as of, and for, the periods presented in this annual
  report;                   
|   |                                                                                                                                                                                                                                                                                                                                 
|4. | The registrants other certifying officer and I are
  responsible for establishing and maintaining disclosure controls and
  procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the
  registrant and have:                                                                                               
|   |                                                                                                                                                                                                                                                                                                                                 
|   |                                                                                                                                                                                                                                                                                                                                 
|   |                                                                                                                                                                                                                                                                                                                                 
|   |                                                                                                                                                                                                                                                                                                                                 
|   |                                                                                                                                                                                                                                                                                                                                 
|   |                                                                                                                                                                                                                                                                                                                                 
|   |                                                                                                                                                                                                                                                                                                                                 
|5. | The registrants other certifying officer and I have
  disclosed, based on our most recent evaluation of internal control over
  financial reporting, to the registrants auditors and the audit committee of
  registrants board of directors (or persons performing the equivalent
  function):                              
|   |                                                                                                                                                                                                                                                                                                                                 
|   | a)                                                                                                                                                                                                                                                                                                                              
|   |                                                                                                                                                                                                                                                                                                                                 
|   | b)                                                                                                                                                                                                                                                                                                                              

Dated: April
2, 2004

| | By: | /s/ Guy Shafran                                          
| | --- | ---------------------------------------------------------
| |     |                                                          
| |     | Guy Shafran
       Chief Financial Officer of the Company

81

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EXHIBIT 32.1

CERTIFICATION

PURSUANT
TO 18 U.S.C. SECTION 1350,

AS
ADOPTED BY SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

I,
Oded Bashan, as Chief Executive Officer of On Track Innovations Ltd. (the Company)
certify, pursuant to 18 U.S.C. § 1350, as adopted by Section 906 of the
Sarbanes-Oxley Act of 2002, that to my knowledge:

(1)          the
accompanying Form 20-F report for the period ending December 31, 2003 as filed
with the U.S. Securities and Exchange Commission (the Report) fully
complies with the requirements of Section 13(a) or 15(d) of the Securities
Exchange Act of 1934, as amended; and

(2)          the
information contained in the Report fairly presents, in all material respects,
the financial condition and results of operations of the Company.

|Dated:  April
  2, 2004 | By: | /s/ Oded Bashan                                     
|----------------------- | --- | ----------------------------------------------------
|                        |     |                                                     
|                        |     | Oded Bashan
  Chief Executive Officer of the Company

82

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EXHIBIT 32.2

CERTIFICATION

PURSUANT
TO 18 U.S.C. SECTION 1350,

AS
ADOPTED BY SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

I,
Guy Shafran, as Chief Financial Officer of On Track Innovations Ltd. (the Company)
certify, pursuant to 18 U.S.C. § 1350, as adopted by Section 906 of the
Sarbanes-Oxley Act of 2002, that to my knowledge:

(1)          the
accompanying Form 20-F report for the period ending December 31, 2003 as filed
with the U.S. Securities and Exchange Commission (the Report) fully
complies with the requirements of Section 13(a) or 15(d) of the Securities
Exchange Act of 1934, as amended; and

(2)          the
information contained in the Report fairly presents, in all material respects,
the financial condition and results of operations of the Company.

|Dated:  April
  2, 2004 | By: | /s/ Guy Shafran                                     
|----------------------- | --- | ----------------------------------------------------
|                        |     |                                                     
|                        |     | Guy Shafran
  Chief Financial Officer of the Company

83

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