---

---

As filed with the Securities and Exchange
Commission on June 27, 2008.


UNITED
STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM 20-F

(Mark One)

|  |                                                                                                                                                          
|- | ---------------------------------------------------------------------------------------------------------------------------------------------------------
|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 ended December 31, 2007                     
| 
|  | Or                                                                                                                                                       
| 
|o | Transition
  Report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
  for the transition period from ______ to ______.            
| 
|  | Or                                                                                                                                                       
| 
|o | Shell
  company report pursuant to section 13 or 15(d) of the Securities exchange act
  of 1934Date of event requiring this shell company report ________

Commission File Number 000-29992



OPTIBASE LTD.(Exact name of Registrant as specified in its charter)

Not Applicable
(Translation of Registrants name into English)

Israel
(Jurisdiction of incorporation or organization)

2 Gav Yam Center
7 Shenkar Street
Herzliya 46120, Israel+972-9-970-9288(Address of principal
executive offices)

Amir
Phillips
Tel: 972-9-9709200
Fax: 972-9-95860992 Gav Yam Center
7 Shenkar Street
Herzliya, 46120 Israel(Name,
Telephone, E-Mail and/or Facsimile and Address of Company Contact Person)

---

---

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
|Ordinary Shares,                 | Nasdaq Global Market                       
|Nominal value NIS 0.13 per share |                                            

Securities registered pursuant to Section 12(g) of the Act:None

Securities for which there is a reporting obligation pursuant to
Section 15(d) of the Act:Not Applicable
(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: 14,097,380
Ordinary Shares, par value NIS 0.13 per share, including 377,470 Ordinary
Shares held by the registrant and 76,650 Ordinary Shares held by a trustee for
the benefit of employees under the Companys incentive plan, both have no
voting or equity rights.

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

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

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

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

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

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

Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, or a non-accelerated filer. See definition of accelerated
filer and large accelerated filer in Rule 12b-2 of the Exchange Act. (Check
one):

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

Indicate by check mark which basis of accounting the
registrant has used to
prepare the financial statementsincluded in this filing:

U.S.
GAAP x

International
Financing Reporting Standards as issued by the International Accounting Standards
Board o

Other
o

If Other
has been checked in response to the previous question, indicate by check mark
which financial statement item the registrant has elected to follow:

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

-ii-

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TABLE OF CONTENTS

|                                                                |     
|--------------------------------------------------------------- | ----
|                                                                | PAGE
|                                                                |     
|Part I                                                          | 1   
|Item 1. Identity of Directors,
Senior Management and
  Advisers | 1   
|Item 2. Offer Statistics and
Expected Timetable                 | 1   
|Item 3. Key
Information                                         | 1   
|Selected consolidated financial
data                            | 1   
|Capitalization and
Indebtedness                                 | 2   
|Reasons for the offer and use of
proceeds                       | 2   
|Risk factors                                                    | 2   
|Item 4. Information on the
Company                              | 15  
|History and development of the
company                          | 15  
|Business overview                                               | 17  
|Organizational
structure                                        | 25  
|Property, plants and
equipment                                  | 26  
|Item 4A. Unresolved Staff
Comments                              | 26  
|Item 5. Operating and Financial
Review and Prospects            | 26  
|Overview                                                        | 26  
|Operating results                                               | 30  
|Liquidity and capital
resources                                 | 40  
|Research and development, patents
and licenses, etc.            | 42  
|Trend information                                               | 42  
|Off balance sheet
arrangements                                  | 42  
|Tabular disclosure of contractual
obligations                   | 43  
|Item 6. Directors, Senior
Management and Employees              | 43  
|Directors and senior
management                                 | 43  
|Compensation                                                    | 45  
|Board practices                                                 | 47  
|Employees                                                       | 50  
|Share ownership                                                 | 51  
|Item 7. Major
  Shareholders and Related Party Transactions     | 53  
|Major shareholders                                              | 53  
|Related party
transactions                                      | 56  
|Interests of experts and
counsel                                | 56  
|Item 8. Financial
Information                                   | 57  
|Consolidated statements and other
financial
  information       | 57  

-iii-

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|                                                                                        |     
|--------------------------------------------------------------------------------------- | ----
|                                                                                        | PAGE
|                                                                                       
|Significant changes                                                                     | 57  
|Item 9. The Offer and
Listing                                                           | 58  
|Item 10. Additional
Information                                                         | 58  
|Share capital                                                                           | 58  
|Memorandum and Articles of
Association                                                  | 59  
|Material contracts                                                                      | 62  
|Exchange controls                                                                       | 62  
|Taxation                                                                                | 63  
|Dividend and paying
agents                                                              | 72  
|Statement by experts                                                                    | 72  
|Documents on display                                                                    | 72  
|Subsidiary
information                                                                  | 72  
|Item 11. Quantitative and
Qualitative Disclosure
  About Market Risk                    | 72  
|Item 12. Description of Securities
Other Than Equity
  Securities                       | 74  
|Part II                                                                                 | 74  
|Item 13. Defaults, Dividend
Arrearages and
  Delinquencies                              | 74  
|Item 14. Material Modifications to
the Rights of
  Security Holders and Use Of Proceeds | 74  
|Item 15T. Controls and
Procedures                                                       | 74  
|Item 16A. Audit Committee Financial
Expert                                              | 75  
|Item 16B. Code of
Ethics.                                                               | 75  
|Item 16C. Principal Accountant Fees
and Services                                        | 75  
|Item 16D. Exemptions from Listing
Standard For Audit
  Committees                       | 76  
|Item 16E. Purchases of Equity
Securities by the
  Issuers and Affiliated Purchasers     | 76  
|Item 17. Financial
Statements                                                           | 76  
|Part III                                                                                | 77  
|Item 18. Financial
Statements                                                           | 77  
|Item 19. Exhibits                                                                       | 77  
|Signatures                                                                              | 78  

-iv-

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Currency
of Presentation and Certain Defined Terms

Unless
the context otherwise requires, references herein to the Company, Optibase,
we, us or our are to Optibase Ltd., a company organized under the laws of
Israel, and its wholly owned subsidiary, Optibase, Inc., a Californian
corporation. In addition, references to our financial statements are to our
consolidated financial statements, except as the context otherwise requires.
References to U.S. or United States are to the United States of America,
its territories and its possessions.

We
have registered Optibase and VideoPlex, as registered trademarks. In
addition, the names MPEG MovieMaker 200, MPEG MovieMaker 230, Media
Gateway, MGW5100, MGW1100, MGW2000, MGW2000e, MGW1000,MGW
HD, Creator, MGW Flash, VideoPlex
Xpress, VideoPlex Pro, MPEG MovieMaker, Videoplex, MPEG ComMotion,
MPEG Composer, VideoPump, MGW200, MGW230,MGW 400, MovieMaker
HD and MediaPump, are our trademarks.

In
this Annual Report, references to $ or dollars or U.S. dollars are to the
legal currency of the United States and references to NIS are to New Israeli
Shekels, the legal currency of Israel. The Companys financial statements are
presented in accordance with United States generally accepted accounting
principles, or U.S. GAAP. Except as otherwise specified, financial information
is presented in U.S.dDollars. References to a particular fiscal year are to
the Companys fiscal year ended December 31 of such year.

Forward-Looking
Statements May Prove Inaccurate

IN
ADDITION TO HISTORICAL INFORMATION, THIS ANNUAL REPORT CONTAINS CERTAIN
FORWARD-LOOKING STATEMENTS WITHIN THE MEANING OF SECTION 27A OF THE SECURITIES
ACT OF 1933, AS AMENDED, AND SECTION 21E OF THE SECURITIES EXCHANGE ACT OF
1934, AS AMENDED. THE FORWARD-LOOKING STATEMENTS CONTAINED HEREIN ARE SUBJECT
TO CERTAIN RISKS AND UNCERTAINTIES THAT COULD CAUSE ACTUAL RESULTS TO DIFFER
MATERIALLY FROM THOSE REFLECTED IN THE FORWARD-LOOKING STATEMENTS. FACTORS THAT
MIGHT CAUSE SUCH A DIFFERENCE INCLUDE, BUT ARE NOT LIMITED TO, THOSE DISCUSSED
IN THE SECTIONS ENTITLED RISK FACTORS AND OPERATING AND FINANCIAL REVIEW AND
PROSPECTS AND ELSEWHERE IN THIS REPORT. READERS ARE CAUTIONED NOT TO PLACE
UNDUE RELIANCE ON THESE FORWARD-LOOKING STATEMENTS, WHICH REFLECT MANAGEMENTS
ANALYSIS ONLY AS OF THE DATE HEREOF. IN ADDITION, READERS SHOULD CAREFULLY
REVIEW THE OTHER INFORMATION IN THIS ANNUAL REPORT AND IN THE COMPANYS
PERIODIC REPORTS AND OTHER DOCUMENTS FILED WITH THE SECURITIES AND EXCHANGE
COMMISSION FROM TIME TO TIME. WE DO NOT UNDERTAKE ANY OBLIGATION TO UPDATE ANY
FORWARD-LOOKING STATEMENTS, WHETHER AS A RESULT OF NEW INFORMATION, FUTURE
EVENTS OR OTHERWISE.

-v-

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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

3.A. Selected Consolidated Financial Data

We
derived the consolidated statement of operations data for the years ended
December 31, 2005, 2006 and 2007, and consolidated balance sheet data as
of December 31, 2006 and 2007 from the audited consolidated financial
statements appearing elsewhere in this Annual Report. These financial
statements have been prepared in accordance with U.S generally accepted
accounting principles (U.S. GAAP). We derived the consolidated statement of
operations data for the years ended December 31, 2003 and 2004 and the
consolidated balance sheet data as of December 31, 2003, 2004 and 2005
from audited consolidated financial statements that are not included in this Annual Report, which statements have
also been prepared in accordance with U.S. GAAP. The selected financial data
set forth below should be read in conjunction with Item 5 Operating and
Financial Review and Prospects below and the financial statements, including
the notes thereto, included elsewhere in this Annual Report.

|                                                                                         |  |                                                      |        |      |   |        |   |      |        |      |   |        |   |   |        |  
|---------------------------------------------------------------------------------------- |  | ---------------------------------------------------- | ------ | ---- | - | ------ | - | ---- | ------ | ---- | - | ------ | - | - | ------ | -
|                                                                                         |  | Year Ended December 31,                              |       
|Consolidated Statement of Operations Data:                                               |  | 2003                                                 |        | 2004 |   | 2005   |   | 2006 |        | 2007 |  
|                                                                                         |  | (U.S. dollars in thousands, except
  per share data) |       
|                                                                                         |  |                                                      |        |      |   |        |   |      |        |      |   |        |   |   |        |  
|Revenues                                                                                 |  | $                                                    | 19,377 |      | $ | 17,845 |   | $    | 19,343 |      | $ | 17,977 |   | $ | 22,977 |  
|                                                                                         |  |                                                      |        |      |   |        |   |      |        |      |   |        |   |   |        |  
|Cost of revenues                                                                         |  |                                                      | 8,508  |      |   | 7,512  |   |      | 7,808  |      |   | 7,716  |   |   | 11,387 |  
|Gross profit                                                                             |  |                                                      | 10,869 |      |   | 10,333 |   |      | 11,535 |      |   | 10,261 |   |   | 11,590 |  
|                                                                                        
|Operating expenses:                                                                      |  |                                                      |        |      |   |        |   |      |        |      |   |        |   |   |        |  
|Research and development, net                                                            |  |                                                      | 4,839  |      |   | 3,761  |   |      | 4,001  |      |   | 4,208  |   |   | 5,362  |  
|Selling and marketing, net                                                               |  |                                                      | 7,928  |      |   | 7,930  |   |      | 8,798  |      |   | 8,288  |   |   | 7,895  |  
|General and administrative                                                               |  |                                                      | 1,973  |      |   | 2,372  |   |      | 1,892  |      |   | 2,134  |   |   | 2,276  |  
|Total operating expenses                                                                 |  |                                                      | 14,740 |      |   | 14,063 |   |      | 14,691 |      |   | 14,630 |   |   | 15,533 |  
|Operating (loss)                                                                         |  |                                                      | (3,871 | )    |   | (3,730 | ) |      | (3,156 | )    |   | (4,369 | ) |   | (3,943 | )
|                                                                                         |  |                                                      |        |      |   |        |   |      |        |      |   |        |   |   |        |  
|Other income (expenses), net                                                             |  |                                                      | (2,275 | )    |   | 808    |   |      | (622   | )    |   | (171   | ) |   | (327   | )
|Financial income, net                                                                    |  |                                                      | 7,979  |      |   | 5,668  |   |      | 1,583  |      |   | 1,405  |   |   | (31    | )
|Net income (loss) before tax                                                             |  |                                                      | 1,833  |      |   | 2,746  |   |      | (2,195 | )    |   | (3,135 | ) |   | (4,301 | )
|Provision for income tax                                                                 |  |                                                      |        |      |   |        |   |      |        |      |   |        |   |   | (73    | )
|                                                                                        
|Net loss after income tax                                                                |  |                                                      | 1,833  |      |   | 2,746  |   |      | (2,195 | )    |   | (3,135 | ) |   | (4,374 | )
|                                                                                         |  |                                                      |        |      |   |        |   |      |        |      |   |        |   |   |        |  
|Equity in loss                                                                           |  |                                                      |        |      |   |        |   |      |        |      |   |        |   |   | (2,769 | )
|                                                                                         |  |                                                      |        |      |   |        |   |      |        |      |   |        |   |   |        |  
|Net income (loss) before cumulative effect of changes in accounting
  principle          |  |                                                      | 1,833  |      |   | 2,746  |   |      | (2,195 | )    |   | (3,135 | ) |   | (7,143 | )
|                                                                                         |  |                                                      |        |      |   |        |   |      |        |      |   |        |   |   |        |  
|Net (loss) income from continuing operations                                             |  | $                                                    | 1,833  |      | $ | 2,746  |   | $    | (2,195 | )    | $ | (3,135 | ) | $ | (7,143 | )
|Income (Loss) related to discontinued operations (1)                                     |  |                                                      |        |      |   | (6,426 | ) |      | (1,250 | )    |   | 15     |   |   | (30    | )
|Net income (loss)                                                                        |  | $                                                    | 1,833  |      | $ | (3,680 | ) | $    | (3,445 | )    | $ | (3,120 | ) | $ | (7,173 | )
|                                                                                         |  |                                                      |        |      |   |        |   |      |        |      |   |        |   |   |        |  
|Net income (loss) per share from continuing operations:                                  |  |                                                      |        |      |   |        |   |      |        |      |   |        |   |   |        |  
|Basic                                                                                    |  | $                                                    | 0.15   |      | $ | 0.21   |   | $    | (0.17  | )    | $ | (0.23  | ) | $ | (0.53  | )
|Diluted                                                                                  |  | $                                                    | 0.14   |      | $ | 0.19   |   | $    | (0.17  | )    | $ | (0.23  | ) | $ | (0.53  | )
|Basic and diluted earnings per
  share from discontinued operations                      |  |                                                      |        |      | $ | (0.49  | ) | $    | (0.09  | )    |   | 0.00   |   |   | 0.00   |  
|Net income (loss) per share                                                              |  |                                                      |        |      |   |        |   |      |        |      |   |        |   |   |        |  
|Basic                                                                                    |  | $                                                    | 0.15   |      | $ | (0.28  | ) | $    | (0.26  | )    | $ | (0.23  | ) | $ | (0.53  | )
|Diluted                                                                                  |  | $                                                    | 0.14   |      | $ | (0.28  | ) | $    | (0.26  | )    | $ | (0.23  | ) | $ | (0.53  | )
|                                                                                         |  |                                                      |        |      |   |        |   |      |        |      |   |        |   |   |        |  
|Weighted average shares used in computing net earning (loss) per
  share (in thousands): |  |                                                      |        |      |   |        |   |      |        |      |   |        |   |   |        |  
|Basic                                                                                    |  |                                                      | 12,510 |      |   | 13,069 |   |      | 13,188 |      |   | 13,431 |   |   | 13,602 |  
|                                                                                         |  |                                                      |        |      |   |        |   |      |        |      |   |        |   |   |        |  
|Diluted                                                                                  |  |                                                      | 13,062 |      |   | 14,225 |   |      | 13,188 |      |   | 13,431 |   |   | 13,602 |  

-1-

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|                                                                                |  |                             |         |      |   |         |  |      |         |      |   |         |  |   |         | 
|------------------------------------------------------------------------------- |  | --------------------------- | ------- | ---- | - | ------- |  | ---- | ------- | ---- | - | ------- |  | - | ------- | 
|                                                                                |  | December 31,                |        
|Consolidated
Balance Sheet Data:                                                |  | 2003                        |         | 2004 |   | 2005    |  | 2006 |         | 2007 |  
|                                                                                |  | (U.S. dollars in thousands) |        
|                                                                                |  |                             |         |      |   |         |  |      |         |      |   |         |  |   |         | 
|Cash, cash equivalents and short term investment in marketable
  securities net |  | $                           | 54,933  |      | $ | 52,480  |  | $    | 18,199  |      | $ | 40,695  |  | $ | 18,387  | 
|Working capital                                                                 |  |                             | 52,800  |      |   | 49,177  |  |      | 16,383  |      |   | 40,342  |  |   | 20,098  | 
|Long term investment in marketable securities                                   |  |                             |         |      |   |         |  |      | 26,742  |      |   | 2,207   |  |   |        | 
|Total assets                                                                    |  |                             | 66,924  |      |   | 65,986  |  |      | 58,346  |      |   | 60,974  |  |   | 51,787  | 
|Long term loans and capital lease obligations, including current
  maturities   |  |                             | 14      |      |   |         |  |      |         |      |   |         |  |   |         | 
|Capital Stock                                                                   |  |                             | 117,510 |      |   | 117,998 |  |      | 118,508 |      |   | 119,720 |  |   | 120,706 | 
|Total shareholders equity                                                      |  | $                           | 54,478  |      | $ | 50,827  |  | $    | 44,836  |      | $ | 44,494  |  | $ | 39,164  | 

(1) The financial statements for the years 2004 and 2005 have been reclassified
in order to reflect the discontinued operations of the Digital Non Linear
Editing product line. See also Note 1.e to our consolidated financial
statements included elsewhere in this annual report.

3.B. Capitalization and indebtedness

Not
applicable.

3.C. Reasons for the offer and use of
proceeds

Not
applicable.

3.D. Risk Factors

Our
business operation is subject to various risks resulting from changing
economic, political, industry, business and financial conditions. In addition,
this Annual Report contains various forward-looking statements that reflect our
current views with respect to future events and financial results. Below we
attempt to identify and describe the principal uncertainties and risk factors
that in our view at the present time may affect our financial condition, cash
flows and results of operations and our forward-looking statements. Readers are
reminded that the uncertainties and risks identified below in this Annual
Report do not purport to constitute a comprehensive list of all the
uncertainties and risks, which may affect our business and the forward-looking
statements in this Annual Report. In addition, we do not undertake any
obligation to update any forward-looking statements, whether as a result of new
information, future events or otherwise.

-2-

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---

Risks Relating to the Economy, Our Financial
Condition and Shareholdings

We
have a history of losses and we might not be able to reach profitability.

Since
2000 and until the quarter ended March 31, 2003, we operated at a loss. We
returned to profitability in the quarter ended June 30, 2003 and remained
profitable until the quarter ended March 31, 2004. Since the second quarter of
2004 we returned to operating at a loss. As of December 31, 2007, we have
accumulated losses of $80 million. Given the market conditions, the uncertainty
in the technology sector and the uncertainty regarding the demand for our
products and our research and development and other expenses, we may continue
to operate at a loss and may not be able to reach profitability in the future,
and our operating results for future periods will continue to be subject to
numerous uncertainties and risks. In order to maintain profitability, we will
need, among other matters, to aggressively expand markets for our new products
while continuing to expand market share for our existing products. We cannot
assure you that we will be able to increase the sales of our products and
revenues and achieve profitability.

The
economic outlook may adversely affect the demand for our products and the results
of our operations.

Weak
economic conditions have caused, and may continue to cause, reductions in
spending in technology markets in general, including spending in digital video
and streaming based products and services. Consequently, there has been, and
may continue to be, an adverse impact on the demand for our products and
services, which has adversely affected, and may continue to adversely affect
our sales and results of operations. In addition, predictions regarding
economic conditions have a low degree of certainty, and further predicting the
effect of the changing economy is even more difficult. We may not be able to
accurately gauge the effect of the general economy on our business. As a
result, we may not react to such changing conditions in a timely manner, which
may result in an adverse impact on our results of operations. Any such adverse
impact on the results of our operations from a changing economy may cause the
price of our ordinary shares to decline.

We
manage our available cash through various investments the market value of which
is subject to fluctuations. Impairment of our investments could harm our
earnings.

We
manage our available cash through investments of various holdings, types and
maturities which are subject to fluctuations that may adversely affect the
value of our available cash. Our investments are comprised mainly of structured
notes and corporate bonds. During 2007, we decided to decrease our holdings in
structured notes and corporate bonds and sold some of these securities at a
loss. For additional information, see Item 5.B. Liquidity and Capital
Resources. As of December 31, 2007, approximately 38% and 8% of our available
cash was invested in structured notes acquired from several banks and corporate
bonds, respectively. In January 2008, we sold all of our holdings in corporate
bonds and the structured notes were called back at PAR by the issuing banks
pursuant to their terms.

Investments
of our available cash are generally classified as available for sale and,
consequently, are recorded on the consolidated balance sheets at fair value
with unrealized gains or losses reported as a separate component of accumulated
other comprehensive income (loss). Changes in the current economic situation,
interest rates and other factors may adversely affect the value of our
available cash. As a result, we may recognize in earnings the decline in fair
value of investments of our available cash when the decline is judged to be
other- than- temporary. For further information regarding the investment of our
available cash, see Item 5.B. Liquidity and Capital Resources below.
Furthermore, our investments in private companies are subject to risk of loss
of investment capital. These investments are inherently risky as the market for
the technologies or products they have under development are typically in the
early stages and may never materialize. We could lose our entire investment in
these companies.

-3-

---

---

Our
officers, directors and affiliated entities own a large percentage of our
ordinary shares and could significantly influence the outcome of actions.

Our
executive officers, directors and the entities affiliated with them, in the
aggregate, beneficially own, as of June 25, 2008, approximately 37.39% of our
outstanding ordinary shares, of which Shlomo (Tom) Wyler, our President, Chief
Executive Officer and Executive Chairman of our Board of Directors holds
approximately 32.72% (calculated taking into consideration shares subject to
options that are currently exercisable or exercisable within 60 days of June
25, 2008 which are deemed to be
outstanding), see Item 7.A. Major Shareholders below. These shareholders, if
acting together, would be able to significantly influence all matters requiring
approval by our shareholders, including the election of directors and the
approval of mergers or other business combination transactions.

We
have experienced significant fluctuations in our results of operations at times
in the past and expect these fluctuations to continue. These fluctuations may
result in volatility in our share price.

We
have experienced at times in the past, and may in the future experience,
significant fluctuations in our quarterly and annual results. Factors that may
contribute to the fluctuations in our quarterly results of operations include:

|  |                                                                                                                                                          
|- | ---------------------------------------------------------------------------------------------------------------------------------------------------------
|v | The timing
  of purchases of our products by system integrators and other large customers;                                                               
|  |                                                                                                                                                          
|v | The rate of
  acceptance of new products we introduce;                                                                                                   
|  |                                                                                                                                                          
|v | The loss of
  major customers;                                                                                                                           
|  |                                                                                                                                                          
|v | Product
  introductions and other actions taken by our competitors;                                                                                      
|  |                                                                                                                                                          
|v | Market
  acceptance of IPTV video services;                                                                                                              
|  |                                                                                                                                                          
|v | Changing
  networking standards in the digital video and streaming industry and our
  ability to anticipate and react to such changes in a timely manner;
|  |                                                                                                                                                          
|v | Changes in
  sales and distribution environments and costs;                                                                                              
|  |                                                                                                                                                          
|v | Fluctuations
  in manufacturing yields and delays in product shipments;                                                                                  
|  |                                                                                                                                                          
|v | Personnel
  changes;                                                                                                                                     
|  |                                                                                                                                                          
|v | Changes in
  foreign exchange rates; and                                                                                                                 
|  |                                                                                                                                                          
|v | General economic
  conditions, particularly in those countries or regions where we sell our
  products.                                                  

Historically,
the prices of video encoders and decoders and content authoring tools have
decreased over the life of individual products, while the complexity of new
product introductions has increased. As a result, we have reduced prices for
our products and we may have to reduce prices in the future. In addition, we
may have to increase our research, development and marketing expenditures in
response to competitive conditions in order to develop new technologies and
products. Accordingly, investors should not rely on the results of any past
periods as an indication of our future performance. It is likely that in some
future periods, our operating results may be below expectations of public
market analysts or investors. If this occurs, the market price of our ordinary
shares may drop.

The
trading price of our ordinary shares has been highly volatile, and may continue
to fluctuate significantly due to factors beyond our control.

The
trading price of our ordinary shares is and will continue to be subject to
significant fluctuations in response to numerous factors, including:

|  |                                                                                                                                                               
|- | --------------------------------------------------------------------------------------------------------------------------------------------------------------
|v | The
  announcement of new products, services or service enhancements by us or our
  competitors;                                                              
|  |                                                                                                                                                               
|v | Quarterly
  variations in our results of operations or in our competitors results of
  operations;                                                           
|  |                                                                                                                                                               
|v | Changes in
  earnings estimates or recommendations by securities analysts;                                                                                    
|  |                                                                                                                                                               
|v | Perceptions
  of the digital video and streaming and networking industrys relative
  strength or weakness;                                                   
|  |                                                                                                                                                               
|v | Developments
  in our industry and change in demand for our products;                                                                                         
|  |                                                                                                                                                               
|v | General
  market conditions and other factors, including factors unrelated to our
  operating performance or the operating performance of our competitors; and
|  |                                                                                                                                                               
|v | Seizure of a
  substantial business opportunity by our competitors or us.                                                                                     

-4-

---

---

We
expect this volatility to continue in the future. In addition, any shortfall or
changes in our revenues, gross margins, earnings or other financial results
could cause the market price of our ordinary shares to fluctuate significantly.
In recent years, the stock market has experienced significant price and trading
volume fluctuations, which have particularly affected the market price of many
technology companies and which may not be related to the operating performance
of those companies. Volatility in the price of stock of companies in the
digital video and streaming industry has been particularly high. These broad
market fluctuations have affected and may continue to affect adversely the
market price of our ordinary shares. In recent years, the trading price of our
ordinary shares has been highly volatile. From January 2007 through June 25,
2008, the price of our ordinary shares rose to a high of $4.52 from a low of $1.59. The fluctuations and factors listed above, as well as general economic,
political and market conditions may further materially adversely affect the
market price of our ordinary shares.

If
we are deemed to be an investment company, we may have to comply with
burdensome requirements that limit our ability to carry on effectively our
operating business.

We
hold more than 40 percent of our assets in investment securities, which
presents the risk that we may be deemed to be an investment company under the
Investment Company Act of 1940 (the ICA). If we are deemed to be an
investment company, we may be required to register under the ICA, and thereby
become subject to the ICAs requirements. These requirements may make it more
difficult for us to carry on our operating business effectively. For example,
registration under the ICA would subject us to:

|  |                                                                            
|- | ---------------------------------------------------------------------------
|v | restrictions
  on the nature of our investments;                           
|  |                                                                            
|v | restrictions
  on our issuance of securities;                              
|  |                                                                            
|v | restrictions
  regarding our form of corporate structure;                  
|  |                                                                            
|v | reporting,
  record-keeping, voting, proxy and disclosure requirements; and
|  |                                                                            
|v | other rules
  and regulations.                                             

In
addition to the foregoing, registration as an investment company could render
certain of our contracts voidable under the ICA. If we fail to comply with
these or other provisions of the ICA, we could be subject to civil and criminal
penalties.

Additionally,
because we hold more than 40 percent of our assets in investment securities, we
must manage our investments carefully to avoid classification as an investment
company. As a result, we may be required to invest in assets that yield lower
returns than assets in which we would invest absent ICA considerations.

Holders
of our ordinary shares who are United States residents face income tax risks.

There
is a substantial risk that we will be classified as a passive foreign
investment company, commonly referred to as PFIC. Our treatment as a PFIC could
result in a reduction in the after-tax return to the holders of our ordinary
shares and would likely cause a reduction in the value of such shares. For U.S.
Federal income tax purposes, we will be classified as a PFIC for any taxable
year in which either (i) 75% or more of our gross income is passive income, or
(ii) at least 50% of the average value of all of our assets for the taxable
year produce or are held for the production of passive income. For this
purpose, passive income includes dividends, interest, royalties, rents,
annuities and the excess of gains over losses from the disposition of assets
that produce passive income, cash is considered to be an asset, which produces
passive income. As a result of our substantial cash position and the
fluctuation in the value of our stock, there is a substantial risk that we will
be classified as a PFIC under a literal application of the asset test described
above, which looks solely at the market value. If we were to be a PFIC for U.S.
federal income tax purposes, highly complex rules would apply to U.S. holders
owning ordinary shares. Accordingly, you are urged to consult your tax advisors
regarding the application of such rules. In addition, there can be no assurance
that we will not be classified as a PFIC in the future, because the
determination of whether we are a PFIC is based upon the composition of our
income and assets from time to time, and such determination cannot be made with
certainty until the end of a calendar year. United States residents should carefully
read Item 10.E. Taxation under the heading United States Federal Income Tax
Consequences below for a more complete discussion of the U.S. federal income
tax risks related to owning and disposing of our ordinary shares.

We
may in the future be the target of securities class action or other litigation,
which could be costly and time consuming to defend.

In
the past, following a period of volatility in the market price of a companys
securities, securities class action lawsuits have often been instituted against
such companies. We may in the future be the target of similar litigation. If
such a lawsuit were brought against us, regardless of its outcome, we would
incur substantial costs and our management resources would be diverted to defending
such litigation.

-5-

---

---

We
may not be able to raise additional financing for our future capital needs on
favorable terms, or at all, which could limit our growth and increase our costs
and could adversely affect the price of our ordinary shares.

We
received net proceeds in the amount of approximately $67 million from our
secondary public offering in March 2000, and we spent approximately $37 million
in cash as a component of the consideration paid to acquire Viewgraphics,
Incorporation and certain other assets, see also Item 4.A. History and
Development of the Company below. In June 2008, we also issued 2,816,901
ordinary shares in a private placement to our Chief
Executive Officer and Executive Chairman of the Board of Directors in consideration
for $5 million. It is probable that we will need to raise additional capital in
the future to continue our longer-term expansion plans through acquisitions. We
cannot be certain that we will be able to obtain additional financing on
commercially reasonable terms or at all. This could inhibit our growth and
increase our operating costs.

We
do not intend to pay dividends.

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

Risks Relating to Our Business

The
digital video and streaming market is highly competitive, and we may lose sales
to our competitors and be forced to continue to lower the prices for our
products, which may result in reduced revenues.

We
currently develop and market two product lines: the IPTV product line and the
Video Technologies product line. The IPTV product line enables telephone
operators and service providers to offer TV services to their subscribers by
leveraging their existing digital subscriber lines, or DSL, and fiber
communications infrastructure. The Video Technologies product line enables a
variety of content creation and streaming applications. Both the IPTV and the
Video Technologies operate and market their products in the enterprise,
government and broadcast markets.

Competition
in each of these markets is intense and we expect competition to increase. The
Video Technologies markets have grown in recent years and have attracted many
competitors. Advances in video encoding technologies and in desk-top processing
capabilities have also enabled sophisticated new applications within these
markets which require an in-depth understanding of customer needs and
significant development efforts. Moreover, the availability of video encoding
technologies has also driven prices for products down within these markets. In
contrast, the IPTV market though young, is currently dominated by large
companies that can afford to aggressively promote their products by reducing
prices in order to gain market share. To be competitive in each product line,
we must continue to respond promptly and effectively to changing customer
preferences, feature and pricing requirements, technological change and
competitors innovations.

We
expect price competition to escalate in the digital video and streaming
industry. We have consistently attempted to minimize the effect of price
reductions in the market by introducing more sophisticated products at the top
of our product line, and thereby attempt to maintain higher selling prices.
However, competition in the future may force us to further lower product prices
and we may be unable to introduce new products at higher prices. We cannot
assure you that we will be able to compete successfully in this kind of price
competitive environment. Lower prices and reduced demand for our products would
reduce our ability to generate revenue. Failure by us to mitigate the effect of
these pressures through cost reduction of our products or changes in our
product mix could have a material adverse effect on our business, financial
condition and results of operations.

-6-

---

---

Some
of our actual and potential competitors may have longer operating histories,
greater name recognition, access to larger customer bases and significantly
greater financial, marketing, technical and other resources than we do. Our
competitors also sell products that provide some of the benefits of the
products that we sell, and we could lose sales to our competitors. Moreover,
some companies in the digital video and streaming products industry, including
some of our competitors, participate in business combinations. These
combinations may result in the emergence of competitors who have greater market
share, customer base, sales force, product offering, technology expertise
and/or marketing expertise than we do. As a result, our competitors may be able
to adapt more quickly to new or emerging technologies and changes in customer
requirements or to devote greater resources to the promotion and sale of their
products than we can. Thus, we cannot assure you that we will be able to
compete successfully against current and future competitors, or that we will be
able to make the technological advances necessary to improve or even maintain
our competitive position or that our products will achieve market acceptance.

If
the digital video and streaming market does not grow as we expect, the demand
for some of our products and technology may decline and our revenues will be
materially adversely affected.

Our
growth depends on our ability to predict which segments of the digital video
and streaming markets will grow and on our ability to penetrate those segments.
We have devoted substantial effort and expense to the development of new
products based on our prediction of market trends, however, if market growth
rates do not meet our expectations, or if we are unsuccessful in identifying
and penetrating those segments, our business will suffer. In addition, general
weak economic conditions have had an adverse impact on the digital video
industry and on the demand for our products. If the economic conditions persist
and demand does not increase, our revenues will decline, and our business will
be materially adversely affected.

The
digital video and streaming market are characterized by rapid technological
changes and multiple evolving standards. If we fail to enhance our existing
products, develop new and more technologically advanced products and
successfully market these products, the results of our operations will suffer.

The
markets for our products are characterized by rapidly changing technology,
evolving industry standards and frequent new product introductions. For
example, recent advances in silicon technology have enabled the development of
cheaper video compression components with higher performance and greater ease
of integration than ever before. Such developments enable competitors to offer
similar or superior products to our own. Our future success will depend on our
ability to maintain expertise in the digital video technologies, enhance our
existing products and introduce new products and features to meet the evolution
of customer requirements and industry standards.

In
addition, we, or our competitors, may announce the introduction of products
that have the potential to shorten the life cycle of, or replace, our products.
We have made such announcements in the past and may do so in the future. Such
announcements could cause customers not to buy our products or to defer
decisions to buy our products. In addition, we cannot assure you that products
or technologies developed by others will not render our products or
technologies non-competitive or obsolete.

Our
future success also depends upon our ability to enhance our existing products
and develop, launch and market new technologies and products in a
cost-effective and timely fashion. We have devoted, and will continue to
devote, substantial effort and expenses to the development of new technologies
and products. However, we cannot assure you that we will be able to complete
testing and successfully launch our new products.

We
derive a significant portion of our revenues from one type of product, and the
failure of this type of product to meet market demands could have an adverse
impact on our financial performance, revenues, and income.

Our
MovieMaker encoder product family accounted for 33% of our revenues in 2005,
28% of our revenues in 2006 and 15% of our revenues in 2007. While our revenues
from the MovieMaker encoder product family continue to decrease, we expect that
this product family will continue to account for a significant portion of our
revenues in the next year. If this product fails to match the price,
availability, quality or other features of competing products or to otherwise
meet our expectations with respect to market demand, it would have a material adverse
affect on our results of operations.

Failure to enter into
cooperation agreements with system integrators or unfruitful cooperation agreements with
system integrators may have a material adverse effect on our results of operations.

As
IPTV operators currently struggle with the complexity of integrating new technologies from
many vendors, it is increasingly clear that it is not enough to provide top-class encoders
and transcoders for the IPTV operators. Most IPTV operators do not have sufficient
expertise and, therefore, mainly rely on a system integrator.

In
the IPTV market, we manufacture encoders and transcoders, and mainly rely on system
integrators to market and sell our products by integrating our encoders and transcoders
with complementary products offered by such system integrators.

We
cannot assure you that we will be able to create the business relationships with the
appropriate system integrators on favorable commercial terms or at all. In addition, the
integration process is quite complex and requires special resources and expertise and
there is no assurance that any relationships we form with system integrators will be
fruitful. Failure to enter into cooperation agreements with system integrators or
unfruitful cooperation agreements with system integrators may have a material adverse
effect on our results of operations.

-7-

---

---

A
decrease in the sales of our Video Technologies product line which we expect to
continue over the years, has had an adverse
effect on our financial results and will continue to have an adverse
effect on our financial results in the future.

Our
sales from the Video Technologies product line were $15.3 million in 2005, $12
million in 2006 and $8.9 million in 2007. The decrease in the sales of our
Video Technologies products are mainly attributed to significant advances in PC
technology supporting software products for standard definition encoding. We
expect that our sales from the Video Technologies products will continue to
decrease over the years which would adversely affect our financial results.

Our results of operations
may be   adversely affected as a result of a decrease in Scopus financial
results.

In
a series of transactions conducted during 2007 and the first quarter of 2008, we purchased
an aggregate of 5,105,223 ordinary shares of Scopus Video Networks Ltd. or Scopus,
representing approximately 37% of Scopus issued and outstanding share capital, for
an aggregate consideration of $28.6 million. See Item 4.A. History and Development
of the Company below. Our investment in Scopus is presented in accordance with the
equity method of accounting. We review our investment in Scopus for impairment periodically by a way of comparing
the market value of our investment in Scopus to its book value. If Scopus financial results deteriorate, this may have a material adverse
effect on our results of operations. In addition, if we wish to sell all or part of our
investment in Scopus, there is no assurance that a liquid market will be at reach, which
may adversely affect our cash flows and financial resources.

We have a limited
backlog of orders and have to plan production and inventory levels on
unpredictable ordering patterns. Maintaining sufficient inventory levels to
meet anticipated demand increases the risk of inventory obsolescence and
associated write-offs, which could adversely affect our financial performance.

The
timing and volume of orders are difficult to forecast for each quarter, as a
substantial portion of our sales are booked and shipped in the same quarter
pursuant to purchase orders. We have a limited backlog of orders for our
products and must maintain or have available sufficient inventory levels to
satisfy anticipated demand on a timely basis. Maintaining sufficient inventory
levels to assure prompt delivery of our products increases the risk of
inventory obsolescence and associated write-offs. A shift in demand could also
result in inventory write-offs, which could harm our financial performance.

In
addition, the ordering patterns of some of our large customers have been
unpredictable in the past and we expect that ordering patterns by customers
will continue to be unpredictable. In view of this inherent unpredictability,
we must plan our production and inventory levels based on internal forecasts of
customer demand, which may fluctuate substantially and sometimes vary
substantially from early estimates provided by customers to us for planning
purposes.

We depend on
third parties to distribute and market our products. If we cannot retain
effective distributors or fail to develop new distributor relationships, we may
be unable to effectively market and distribute our products.

A
significant portion of our sales efforts worldwide, in particular in the Video
Technologies product line, is conducted through a network of independent
distributors. We are unable to predict whether and the extent to which some of
these distributors will be successful in marketing and selling our products in
the future. While we have a policy of using only distributors who do not distribute
competing products, we have experienced, and may experience in the future,
sales by our distributors of products that compete with our products. In such
cases, we may have to seek new distributor relationships, and we may not be
able to establish relationships on the same terms as the prior relationships.
Furthermore, distributors may terminate their relationships with us upon short
notice with little or no penalty.

Our
future performance also depends on our ability to attract additional distributors
who will be able to market and support our products effectively, especially in
markets in which we have not previously been active. Effective distributors
must possess sufficient technical, marketing and sales resources and must
devote these resources to a lengthy sales cycle and subsequent first-line
customer support. We may not be able to retain our current distributors and may
not be able to recruit additional or replacement distributors with sufficient
technical expertise in the networking and video content fields. The loss of one
or more of our major distributors, especially in a key market, or the failure
by one or more major distributors to adequately provide customer support could
adversely affect our business.

We
believe it is becoming increasingly important for our success to develop
relationships with several large original equipment manufacturers, or OEMs, of
video server and network equipment with technical and support expertise. We
presently have a limited number of OEM relationships and we may not be able to
maintain these relationships. Moreover, we may not be able to develop new OEM
relationships on favorable terms or at all. Our failure to retain existing or
to develop new OEM relationships will have a material adverse effect on our
ability to sell our products and our operation results.

Some
of our sales to the telecommunication, or Telco, market segment are conducted
directly. However, sales to major Telcos largely depend on our ability to
develop relationships and form business combinations with well-recognized Telco
vendors, such as: Alcatel, Siemens and Nortel. Failure to develop such
relationships will have a material adverse affect on our revenues and results
of operations.

-8-

---

---

As
we market our products internationally our business is affected by the WEEE and
RoHS directives.

As
manufacturers and sellers of electronic equipment, certain aspects of the
Restriction of Hazardous Substances in Electrical and Electronic Equipment
(RoHS) Directive (2002/95/EC) which bans the use on the European
Union (EU) market of certain hazardous materials including lead, mercury,
cadmium, chromium, and halogenated flame-retardants and the Waste Electrical and Electronic
Equipment (WEEE) Directive (2002/96/EC) which regulates the collection,
recovery and recycling of waste from electrical and electronic products apply to our operation. In addition,
the Peoples Republic of China has enacted a law on Management Methods for
Controlling Pollution by Electronic Information Products, referred to as the
China RoHS, that is equivalent of the bans implemented in the EU, but the
marking and product certification requirements exceed the requirement of the EU
RoHS directive. Furthermore, the scope of this legislation is broader than the
EU RoHS directive, covering also medical devices and measurement instruments. Although we make efforts to comply with the
directives, if we fail to do so, we may not be able to market our products
effectively in some countries (mainly in
Europe) and as a result, our operations will be adversely affected. In
order to comply with these directives we have invested and may need to further
invest development resources to replace non-compliant components with compliant
components with the same function. Our costs of goods sold may also increase
due to the use of certain new components and manufacturing processes. We cannot
assure you that lack of compliance with the WEEE and RoHS directives will not
have a material adverse effect on our financial condition or results of
operations. In some cases compliance with these directives may require changing
a hardware product in a way that requires some of our customers to make changes
to their own systems. The need by a customer to change an existing system requires
an investment of resources and presents the opportunity for a customer to
reconsider the advantages of our products in comparison with those of
competitors, and may result in the loss of some of our customers.

Our
products could contain defects, which would reduce sales of those products or
result in claims against us.

We
develop complex and evolving products. Despite testing, errors may be found in
existing or new products. Reliability, quality or compatibility problems with
our products could significantly delay or reduce market acceptance of our
products, could require the devotion of significant time and resources to
address errors, could divert our engineering and other resources from other
tasks and development efforts, and could damage our reputation and adversely
affect our ability to retain our existing customers and to attract new
customers. We could also be subject to material product liability claims by
customers.

We
depend on a number of third parties to manufacture, distribute and supply
critical components of our products and we may be unable to operate our
business if these parties fail to perform their obligations.

We
depend upon sole source suppliers for key components used in our products.
These key components include, for example:

|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|v | H.264
SD, MPEG I/II, MXF, DnXHD, AAC, Flash, streaming servers and HD video encoding
tools provided by technological partners;                                                                                                                                                                                                                                                                                                                                     
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|v | Various
  modules, which are integrated in our systems, both for the MGW2000,
  MGW200/400, MGW Flash, MGW5100, MGW 1100, MGW HD and the MGW1000 including:
  Switches supplied by PTI (Performance Technologies Inc.) and Interface, a
  switch supplied by Intel, Hosts supplied by Freescale and Kontron, backplane
  board by Kaparel Corporation Pentium, CPU modules supplied by Kontron and
  Compact Pci platforms supplied by EPS (Israel) TECH 1992 Ltd.;
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|v | Digital
  Signal Processing, or DSP, compression techniques, manufactured by Equator
  Inc. and TI, which are used in our MGW 5100, MGW 1100, MGW 2400, MGE 400 and
  Movie Maker 400 products;                                                                                                                                                                                                                                                                    
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|v | Video
  compression chips manufactured by LSI Logic and NEL;                                                                                                                                                                                                                                                                                                                                                                                                       
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|v | Audio Analog
  to Digital Converters (A/D), Digital to Analog Converters (D/A) and
  decompression chips manufactured by Crystal Semiconductor Corporation, or Crystal,
  a subsidiary of Cirrus Logic, which are included in our encoders and
  decoders;                                                                                                                                                                                                         
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|v | Freescale,
  Inc.s DSPs, which are included in our decoders and encoders;                                                                                                                                                                                                                                                                                                                                                                                         
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|v | A video
  decoding chip manufactured by IBM;                                                                                                                                                                                                                                                                                                                                                                                                                       
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|v | SDI
  interface chips manufactured by Gennum;                                                                                                                                                                                                                                                                                                                                                                                                                      
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|v | Microprocessor
  and PCI bridge devices from Intel that are used in our MediaPump and
  MovieMaker boards;                                                                                                                                                                                                                                                                                                                                                         

-9-

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|  |                                                                           
|- | --------------------------------------------------------------------------
|v | A video
  processing chipset from Gennum, which is used in our MM200s; and
|  |                                                                           
|v | Programmable
  devices by Xilinx, which are used in our Mediapump.        

We
may have sole source suppliers for additional products in the future. We
purchase these sole source components pursuant to purchase orders placed from
time to time. We do not carry significant inventories of these sole source
components and we have no guaranteed supply arrangements or other long-term
agreements. The lack of guaranteed supply arrangements can result in delays in
obtaining components from time to time. The time and resources that these third
parties devote to our business is not within our control. We cannot be sure
that these parties will perform their obligations as expected or that any
revenues, cost savings or other benefits will be derived from the efforts of
these parties. If any of these parties breaches or terminates its agreement
with us or otherwise fails to perform its obligations in a timely manner, the
manufacture of our products may be delayed or cancelled. If any of these events
occur, we may be required to look for alternative sources of supply for our
sole source components, which may be time consuming and we may incur additional
expenses, which in turn may affect our sales and operation results.

Some
of our products were designed a number of years ago and we may face
difficulties acquiring components for these products which will result in an
adverse effect on our reputation and sales.

Though
we monitor the availability of components and make reasonable effort to procure
sufficient quantities to meet demand, the availability of components is largely
beyond our control, in particular for older components. If a manufacturer
declares one or more of these components obsolete, we may not be able to meet
the demand for our products which may adversely affect our reputation and our
sales.

We
depend on a limited number of key personnel who would be difficult to replace,
and if we lose the services of these individuals or cannot hire additional
qualified personnel, our business will be adversely affected.

Our
continued growth and success largely depend on the managerial and technical
skills of key technical, sales and management personnel. If any of the current
members of the senior management team are unable or unwilling to continue in
our employ, our results of operations could be materially and adversely
affected. Our success also depends to a substantial degree upon our ability to
attract, motivate, and retain other highly qualified personnel. The technology
associated with digital video and streaming is at a relatively advanced stage,
and there are many competitors in this area. Consequently, there is
considerable competition for the services of technical, sales, management and
engineering personnel.

The
length of our sales cycle of streaming products depends on factors beyond our control
and may cause revenues to vary significantly.

Sales
of our streaming products, and in particular, the IPTV products, which are
generally integrated within a larger system, require an extended sales effort.
The period from an initial sales call to the receipt of a purchase order for
such products typically ranges from six to twelve months and can be longer.
Also, because our products are often used as part of a larger project, the
timing of an order for our products is often dependent upon the timing of the
projects, which is beyond our control. In addition, due to the operating
procedures in many large organizations considering the purchase of our
products, an extended period of time may be required for technical evaluation
to be completed and capital expenditure authorization to be obtained within the
customer. Accordingly, if a forecast of revenues from a specific customer for a
particular period is not realized in that period, our operating results for
such period will be adversely affected.

Cost-reduction
efforts may adversely impact our productivity and service levels.

Since
2001 and until the first quarter of 2006, we have continuously implemented
various cost-control measures affecting various aspects of our business operations,
including several reductions in our workforce in particular in our U.S. based
and Israeli based research and development divisions. We may in the future be
required to take additional cost-saving actions to reduce our operating losses
and to conserve cash. The failure to achieve such future cost savings could
have a material adverse affect on our financial conditions. On the other hand,
even if we are successful with these efforts and can generate the anticipated
cost savings, these actions may adversely impact our employees morale and
productivity, the competitiveness of our products and business, our strength
and stability as perceived by our customers and the results of our operations.

-10-

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We
may continue to seek to expand our business through acquisitions that could
result in a diversion of resources and our incurring additional expenses, which
could disrupt our business and harm our financial condition.

As
we have in the past, we may in the future continue to pursue acquisitions of
businesses, products and technologies, or the establishment of joint venture
arrangements, that could expand our business. The negotiation of potential
acquisitions or joint ventures as well as the integration of an acquired or
jointly developed business, technology, service or product could cause
diversion of managements time as well as our resources. Future acquisitions
could result in:

|  |                                                             
|- | ------------------------------------------------------------
|v | Additional
  operating expenses without additional revenues;
|  |                                                             
|v | Potential
  dilutive issuances of equity securities;        
|  |                                                             
|v | The
  incurrence of debt and contingent liabilities;        
|  |                                                             
|v | Amortization
  of goodwill and other intangibles;           
|  |                                                             
|v | Research and
  development write-offs;                      
|  |                                                             
|v | Impairment
  charges; and                                   
|  |                                                             
|v | Other
  acquisition-related expenses.                       

Acquired
businesses or joint ventures may not be successfully integrated with our
operations. If any acquisition or joint venture were to occur, we may not
receive the intended benefits of the acquisition or joint venture. If future
acquisitions disrupt our operations, our business may suffer.

Our
proprietary technology is difficult to protect and unauthorized use of our
proprietary technology by third parties may impair our ability to compete
effectively.

Our
success and ability to compete depend in large part upon protecting our
proprietary technology including both hardware and software components of our
products. We cannot assure you that our efforts to protect our proprietary
rights will be adequate. Our inability to protect our proprietary rights effectively
could have a material adverse effect on our business, financial condition and
results of operations. We currently rely on a combination of patent, trade
secret, trademark and copyright laws, nondisclosure and other contractual
agreements and technical measures to protect our proprietary rights. We cannot
assure you that any patents will be issued to us as a result of current or
future patent applications or that patents issued to us will not be
invalidated, circumvented or challenged. In addition, we cannot assure you that
the rights granted under any such patents will provide us with competitive
advantages. We cannot assure you that any patents issued to us will be adequate
to stop unauthorized third parties from copying our technology, designing around
the patents we own or otherwise obtaining and using our products, designs or
other information. Litigation may be necessary to enforce our intellectual
property rights and to protect our trade secrets, and we cannot assure you that
such efforts will be successful. Moreover, we cannot assure you that others
will not develop technologies that are similar or superior to our technology.
Additionally, our products may be sold in foreign countries that provide less
protection to intellectual property than that provided under United States or
Israeli laws.

Because
our products may be subject to claims of infringement on the intellectual
property rights of third parties, our business will suffer if we are sued for
infringement or cannot obtain licenses to these rights on commercially
acceptable terms.

All
of our products rely on technology that could be the subject of existing
patents or patent applications of third parties. Many participants in the
digital video and streaming market have a significant number of patents and
have frequently demonstrated a readiness to commence litigation based on
allegations of patent and other intellectual property infringement. We expect
that companies will increasingly be subject to infringement claims as the
number of products and competitors in our industry segment grows and the
functionality of products in different industry segments overlaps. Such claims
may require us to enter into license arrangements, or may result in protracted
and costly litigation that would require us and our management to make
significant expenditures of time, capital and other resources, regardless of
the merits of these claims. Any necessary licenses may not be available or if
available, may not be obtainable on commercially reasonable terms. If we cannot
obtain all necessary licenses on commercially reasonable terms, we may be
forced to stop selling all or some of our products, and our business would be
harmed.

-11-

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From
time to time, we receive notices relating to alleged infringement. In some
cases, we have not received subsequent communications after responding to the
initial claim or we believe that the correspondence requires no further action
on our behalf. In some other cases, we have resolved the matters on
commercially reasonable terms or requested additional information in order to
determine the merits of the notice. However, we cannot assure you that future
claims will be resolved on such terms, and failure to resolve such claims on
commercially acceptable terms could result in a material adverse affect on our
business, financial condition and results of operations.

The
prices of our products may become less competitive due to foreign exchange
fluctuations.

Foreign
currency fluctuations may affect the prices of our products. Our prices in all
countries are incurred or determined in U.S. dollars. If there is a significant
devaluation of the local currency in relation to the U.S. dollar in a specific
country, the prices of our products will increase relative to the local
currency and may be less competitive.

Business
interruptions could adversely affect our business.

Our
operations are vulnerable to interruption by fire, earthquake, power loss,
telecommunications failure and other events beyond our control, especially
because our facilities are located in Israel and the State of California. We do
not have a detailed disaster recovery plan. In the event these blackouts,
earthquake or other interruptions occur, they could disrupt the operations of
our affected facilities. In addition, we do not carry sufficient business
interruption insurance to compensate us for losses that may occur and any
losses, and any potential damages resulting from such interruptions could have
a material adverse affect on our business.

Risks Relating to Operations in Israel

Deterioration in the economy in Israel may
adversely affect our results of operations.

We
are incorporated under the laws of and our main offices are located in the
State of Israel. The economic conditions in Israel directly influence us.
Israeli economy, which is also influenced by the political and military
instability in Israel, has suffered in the past and may suffer in the future
from instability, which may adversely affect our financial condition and results of operations.

Following
the recession and the instability that characterized the Israeli economy from
the year 2001 through 2003, the Israeli economy has improved during 2004 and
through 2007. Currently, the global economy shows signs of growth slowdown
which might also have an effect on the Israeli economy. The Israeli economy has
also been subject to significant changes, as a result of implementation of new
economic policies and privatization. If the results of these changes are
unsuccessful or if there is an economic deterioration in Israel, it may
adversely affect our financial conditions, the results of operations and our
ability to obtain financing from Israeli banks.

Potential political and military instability
in Israel may adversely affect our results of operations.

The
political and military conditions in Israel directly influence us. Since the
establishment of the State of Israel in 1948, a number of armed conflicts have
taken place between Israel and its Arab neighbors, and a state of hostility,
varying from time to time in intensity and degree, has led to security and
economic problems for Israel. Although Israel has entered into various
agreements with Egypt, Jordan and the Palestinian Authority, since September
2000, there has been a high level of violence between Israel and the
Palestinians. Hamas, an Islamist movement responsible for many attacks,
including missile strikes, against Israelis, won the majority of the seats in
the Parliament of the Palestinian Authority in January 2006 and took control of
the entire Gaza Strip, by force, in June 2007. These developments have further
strained relations between Israel and the Palestinian Authority. Any armed
conflict, political instability or violence in the region may have a negative
effect on our business condition, harm our results of operations and adversely
affect our share price. No predictions can be made as to whether or when a
final resolution of the areas problems will be achieved or the nature thereof
and to what extent the situation will impact Israels economic development or
our operations.

-12-

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Most
of our directors, officers and employees are currently obligated to perform
military reserve duty of up to 36 days annually. Additionally, all reservists
are subject to being called to active duty at any time under emergency
circumstances. We cannot assess the full impact of these requirements on our
workforce and business if conditions should change, and we cannot predict the
effect on us of any expansion or reduction of these obligations.

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

We
generate most of our revenues in U.S. dollars but incur a portion of our
expenses in NIS. As a result, we are exposed to risk to the extent that the
rate of inflation in Israel exceeds the rate of devaluation of the NIS in
relation to the dollar or if the timing of devaluation lags behind inflation in
Israel. In either event, the dollar cost of our operations in Israel will
increase and our dollar-measured results of operations will be adversely
affected. Specifically, the inflation rate in Israel was approximately 2.4% in
2005, deflation rate of approximately 0.1% in 2006, and inflation rate of
approximately 3.4% in 2007. At the same time the devaluation of the NIS against
the dollar was approximately 6.8% in 2005, the appreciation of the NIS against
the dollar was approximately 8.2% in 2006 and the appreciation of the NIS
against the dollar was approximately 9.0% in 2007. As a result of this
differentiation, we experienced a decrease in the dollar costs of operations in
Israel in 2005 and an increase in the dollar costs of operation in Israel in
2006 and 2007, all of which did not materially affect our results in such
periods. The fluctuations in the dollar costs of our operations in Israel
related primarily to the costs of salaries in Israel, which are paid in NIS and
constitute a portion of our expenses. We cannot assure you that we will not be
materially adversely affected in the future if inflation in Israel exceeds the
devaluation of NIS against the dollar or if the timing of such devaluation lags
behind increases in inflation in Israel. Our operations also could be adversely
affected if we are unable to guard against currency fluctuations in the future.
Accordingly, we may enter into currency hedging transactions to decrease the
risk of financial exposure from fluctuations in the exchange rate of the dollar
against the NIS. These measures, however, may not adequately protect us from
material adverse effects due to the impact of inflation in Israel.

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

We
receive grants from the Office of the Chief Scientist, or the OCS, in the Israeli Ministry
of Industry, Trade and Labor for research and development programs that meet specified
criteria. Through 2007, we received an aggregate of $7.0 million in grants from the OCS
and our accrued and paid royalties to the OCS totaled $3.8 million. We also receive tax
benefits under Israeli law for capital investments that are designated as Approved
Enterprises. These grants and tax benefits might be reduced in the future. To
maintain our eligibility for these programs and tax benefits, we must continue to meet
conditions, including payment of royalties with respect to grants received and making
specified investments in fixed assets. Under the Encouragement of Industrial Research and
Development Law, of 1984, or the R&D Law, and the terms of the OCS grants,
we are subject to three main obligations: (i) the obligation to locally manufacture the
OCS supported products; manufacturing the OCS supported products outside of Israel that
results in a reduction of more than 10% of the local manufacturing rate, is subject to the
OCSs prior written approval and the payment of increased royalties, which may be up
to 300% of the grant amount plus interest, depending on the manufacturing volume that is
performed outside of Israel, at an increased annual return rate; (ii) the obligation not
to transfer know-how, that was developed as a result of grants received from the OCS (in
the course of an approved plan), outside the State of Israel; the Research
Committee is authorized to approve the transfer of know-how, that results from research
and development made in the course of an approved plan, outside of Israel
pursuant to certain terms, including payment of a redemption fee; and (iii) the obligation
to pay royalties to the OCS whenever the company successfully commercializes OCS funded
products. Failure to comply with the R&D Law may result in cancellation of the grants
received from the OSC. We may be required to refund the portion of the grant already
received plus interest and we may also be subject to penalties and criminal charges. The
difficulties in obtaining the approval of the OCS for the transfer of know-how and
manufacturing rights out of Israel could have a material adverse effect on strategic
alliances or other transactions that we may enter into in the future that provide for such
a transfer.

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Entitlement
to the tax benefits under the Law for Encouragement of
Capital Investments for enterprises to which the Investment Center granted
an Approved Enterprise status prior to December 31, 2004, is subject
to the final ratification of the Investment Center, and is conditioned upon
fulfillment of all terms of the approved program. In the event of our failure to comply with
these conditions, the tax and other benefits granted under the
Law for Encouragement of Capital Investments could be canceled, in
whole or in part, and we might be required to refund the amount of the canceled
benefits, together with the addition of Consumer Price Index linkage difference
and interest. We believe that our Approved Enterprise substantially
complies with all such conditions at present, but there can be no assurance
that it will continue to do so. There can be no assurance that we, who
enjoy Approved Enterprise benefits under the Law for
Encouragement of Capital Investments will, meet the conditions stipulated under the Law for Encouragement of
Capital Investments in order to obtain a future status of Privileged
Enterprise, or that the provisions of the Law for Encouragement of
Capital Investments will not change in
respect of such status. The termination or reduction of the benefits under the Law for
Encouragement of Capital Investments would
increase our tax liability in the future, which would reduce our profits or
increase our losses. Additionally, if we increase our activities outside of
Israel, for example, by future acquisitions, our increased activities might not
be eligible for inclusion in Israeli tax benefit programs. See Item 10.E.
Taxation under the heading Israeli
TaxationTax benefits under the
Law for the Encouragement of Capital Investments, 1959. below.

Anti-takeover provisions could negatively impact our shareholders.

The
Israeli Companies Law of 1999, or the Companies Law, provides that certain
purchases of securities of a public company are subject to tender offer rules.
As a general rule, the Companies Law prohibits any acquisition of shares in a
public company that would result in the purchaser holding 25% or more than 45%
of the voting power in the company, if there is no other person holding 25% or
more than 45% of the voting power in a company, respectively, without
conducting a special tender offer.

The
Companies Law further provides that a purchase of shares of a public company or
a class of shares of a public company, which will result in the purchasers
holding 90% or more of the companys shares or class of shares, is prohibited
unless the purchaser conducts a full tender offer for all of the companys
shares or class of shares. The purchaser will be allowed to purchase all of the
companys shares or class of shares (including those shares held by
shareholders who did not respond to the offer), if the shareholders who did not
respond to the offer constitute less than 5% of the companys issued share
capital, or of the issued class of shares. At the request of an offeree of a
full tender offer which was accepted, the court may determine that the
consideration for the shares purchased under the tender offer, was lower than
their fair value and compel the offeror to pay to the offerees the fair value
of the shares. Such application to the court may be filed as a class action.

In
addition, the Companies Law provides for certain limitations on a shareholder
that holds more than 90% of the companys shares, or class of shares.

Israeli
courts might not enforce judgments rendered outside of Israel, which may make
it difficult to collect on judgments rendered against us.

We
are incorporated in Israel. Some of our directors and officers are not
residents of the United States and some of their assets and our assets are
located outside the United States. Service of process upon our non-U.S.
resident directors and officers and enforcement of judgments obtained in the
United States against us, and our directors and executive officers may be
difficult to obtain within the United States.

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We
have been informed by our Israeli legal counsel, that there is doubt as to the
enforceability of civil liabilities under U.S. securities laws in original
actions instituted in Israel. However, subject to certain time limitations, an
Israeli court may declare a foreign civil judgment enforceable if it finds that
all of the following terms are met:

|  |                                                                                                                                                                                                                 
|- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|v | The judgment
  was rendered by a court which was, according to the laws of the state of the
  court, competent to render the judgment;                                                                          
|  |                                                                                                                                                                                                                 
|v | The judgment
  can no longer be appealed;                                                                                                                                                                       
|  |                                                                                                                                                                                                                 
|v | The
  obligation imposed by the judgment is enforceable according to the rules
  relating to the enforceability of judgments in Israel and the substance of
  the judgment is not contrary to public policy; and
|  |                                                                                                                                                                                                                 
|v | The judgment
  is executory in the state in which it was given.                                                                                                                                                 

Even
if the above conditions are satisfied, an Israeli court will not enforce a
foreign judgment if it was given in a state whose laws do not provide for the
enforcement of judgments of Israeli courts (subject to exceptional cases) or if
its enforcement is likely to prejudice the sovereignty or security of the State
of Israel. An Israeli court will also not declare a foreign judgment
enforceable in the occurrence of any of the following:

|  |                                                                                                                                                                     
|- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------
|v | The judgment
  was obtained by fraud;                                                                                                                               
|  |                                                                                                                                                                     
|v | There was no
  due process;                                                                                                                                         
|  |                                                                                                                                                                     
|v | The judgment
  was rendered by a court not competent to render it according to the laws of
  private international law in Israel;                                   
|  |                                                                                                                                                                     
|v | The judgment
  is at variance with another judgment that was given in the same matter
  between the same parties and which is still valid; or                       
|  |                                                                                                                                                                     
|v | At the time
  the action was brought in the foreign court a suit in the same matter and
  between the same parties was pending before a court or tribunal in Israel.

Item 4. Information
on the Company

4.A. History and Development of the Company

History

Optibase
was founded and incorporated in the State of Israel in 1990 under the name of
Optibase Advanced Systems (1990) Ltd. In November 1993 we changed our name to
Optibase Ltd. Our principal executive offices are located at 2 Gav Yam
Center, 7 Shenkar Street, Herzliya 46120, Israel, and our telephone number
at that location is +972-9-970-9288. Our website is located at www.optibase.com.
Optibase is subject to the provisions of the Companies Law. Our U.S.
subsidiary, Optibase, Inc., was incorporated in 1991 in California, and is
located at 880 Maude Avenue, Mountain View, California 94043.

Beginning
February 2001, Festin Management Corp., a British Virgin Island corporation
jointly owned by Shlomo (Tom) Wyler and Arthur Mayer-Sommer started to acquire
our ordinary shares on the open market. On September 10, 2004, Festin
Management Corp. transferred all of its holdings in us to its shareholders.
Based on a Schedule 13D filed with the Securities and Exchange Commission, which
we refer to herein as the Commission or the SEC, on June 9, 2005 by Shlomo
(Tom) Wyler and Arthur Mayer-Sommer, Mr. Wyler held 1,800,000 ordinary shares
representing 13.31% of our issued share capital, as of that date, Mr.
Mayer-Sommer held 1,200,000 ordinary shares representing 8.87% of our issued
share capital, as of that date. On May 27, 2006, Mr. Wyler purchased 601,838
ordinary shares from Moshe Namdar. In June 2008, we issued to Mr. Wyler, in a
private placement, 2,816,901 of our ordinary shares, representing
20.56% of our issued share capital. Based on a Schedule 13D filed with the SEC
on June 25, 2008 by Shlomo (Tom) Wyler, Mr. Wyler holds 5,493,739 ordinary shares representing
32.72% of our issued share capital Mr. Wyler also serves as our President,
Chief Executive Officer and Executive Chairman of the Board of Directors.

In
December 2000, we acquired Viewgraphics Incorporated, a privately held company
based in Mountain View, California, and a provider of hardware and software
products for digital video and streaming infrastructure application which was
merged with and into our subsidiary Optibase, Inc. in June 2001. In connection
with the acquisition, we paid an aggregate consideration of approximately $43.6
million, of which $11.8 million (net of issuance expenses) was paid in 1.37
million newly issued ordinary shares.

In
June 2004, we acquired certain assets and liabilities of Media 100 Inc. as part
of a pre-packaged bankruptcy filing of Media 100, in consideration for $2.5
million in cash and costs incurred by us totaling $401,000. In September 2005,
we entered into an agreement for the sale of our Digital Non-Linear Editing product
line activity. For further information on this agreement, see Item 10.C.
Material Contracts.

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In
January 2007, we purchased from Koor Corporate Venture Capital and Koor
Industries Ltd. 3,035,223 ordinary shares of Scopus, representing, at that time, approximately 23% of Scopus issued share capital,
at an aggregate purchase price of approximately $16 million. Scopus
develops, markets and supports digital video networking products that enable
network operators to offer advanced video services to their subscribers. In
August 2007, we successfully completed a tender offer to purchase 690,000 ordinary
shares of Scopus,
representing, at that time, approximately 5% of Scopus issued share
capital, at an aggregate purchase price of approximately $4 million. Following the completion of the
tender offer, we beneficially owned
3,725,223 ordinary shares of Scopus, representing, at that time, approximately
27.3% of the issued and outstanding ordinary shares of Scopus. In December 2007, we entered into agreements
with certain shareholders of Scopus, to purchase an aggregate of 1,380,000
ordinary shares of Scopus, representing, at that time, approximately 10% of
Scopus outstanding shares, for an aggregate consideration of approximately
$8.6 million. During January 2008, following satisfaction of the conditions to
such purchase, we completed the purchase and beneficially owned approximately 37% of Scopus issued and
outstanding shares. On April 18, 2008, we sent a letter to Scopus, asking
Scopus to convene, within 21 days, a shareholders meeting to approve the declassification
of Scopus board of directors and the election of a slate of directors proposed
by us. On June 16, 2008, at Scopus shareholders meeting, the shareholders
rejected our proposals.

In
addition, we hold interest in two companies, as follows:

V.Box
Communication Ltd. - In July 2001, we entered into an agreement with a
privately held Israeli company called V.Box Communication Ltd., or V.Box,
pursuant to which we have invested an initial amount of $250,000 in
consideration for convertible bonds which, if converted, will constitute
approximately 34% of V.Box. Through December 31, 2006 we have invested,
by the way of convertible bonds, an aggregate amount of $2.6 million in V.Box.
The investment was made by way of a loan against a note that can be converted
into ordinary shares of V. Box, at any time, by a five-day prior written
notice. The principal amount of the loan is payable upon the earlier of: (i)
July 1, 2010; (ii) actual liquidation of V.Box; or (iii) mutual consent by us
and the other investors of V.Box. During 2007 we have invested an additional
$325,000 by the way of a promissory note bearing no interest and no linkage
differentials. Such additional amount will be repaid only out of proceeds
received by V.Box on account of the sale of all or substantially all of the
assets of V.Box or a specific line of products and/or upon the occurrence of an
event of default, including among others, insolvency or bankruptcy of V.Box,
appointment of a receiver or a liquidator to V.Box and exercise of any liens on
all or substantially all of V.Box assets. If an event of default occurs, we
have a right of first refusal towards V.Box with regard to the purchase of
V.Box line of product. As of December 31, 2007 we have invested an aggregate
amount of $2.9 million in V.Box. In addition, we sublease a part of our
premises to V.Box and also provide V.Box with distribution services in the
North American market.

Mobixell
Networks Inc.- In November 2000, we entered into an agreement with a privately
held company called Mobixell Networks Inc., or Mobixell, pursuant to which we
granted Mobixell a license to use certain of our MPEG-4 technologies valued at
$300,000, and committed to invest through one of our subsidiaries at least $1
million. In December 2000, we invested $1.064 million in Mobixells series A
preferred stock. Mobixell Networks designs, develops and markets solutions for
mobile rich media adaptation, optimization and delivery. During the quarter
ended March 31, 2003, based on updated information, we decided to adjust
downward the value of the investment in Mobixell by its full amount, totaling
$1.36 million. However, during the quarter ended September 30, 2003, Mobixell
entered into an additional financing round that included new strategic
investors. As part of the financing round, we reassessed the investment and
decided to participate in the financing round in the amount of $300,000 in
Mobixells series B preferred stock. In May 2004, we decided to participate in
another financing round in the amount of $400,000 in Mobixells series C
preferred stock. As a result, our holdings in Mobixell, on a fully diluted
basis, represent 5.38% of its equity. We may participate in future financing
rounds in Mobixell and our holdings may be further diluted.

-16-

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4.B. Business Overview

We
provide high quality equipment for a wide range of professional video
applications in the broadband IPTV, broadcast, government, enterprise and
post-production markets. During 2007, we developed and marketed two product
lines: Video Technologies and IPTV. Our products are generally manufactured by
the same subcontractors by the use of similar raw materials purchased from the
same suppliers. We market our products through a combined sales and marketing
team and sell them by way of direct sales and through independent distributors,
system integrators and resellers.

Products

Video Technologies

The
Video Technologies product line which includes PCI platforms for encoding,
decoding and interfacing with DVB networks, and Media Gateways, enables a
variety of content creation and streaming applications.

The
Video Technologies products target the broadcast, government, enterprise and
post-production markets.

In
the enterprise markets, our encoding and streaming products enable applications
such as corporate training, videoconferencing, TV to the desktop and corporate
video messages distributed over the corporate network. In the broadcast markets
our products enable the preparation of video content for Video On Demand (VOD),
Archive Broadcast servers and NLEs.

We
sell the Video Technologies products directly to end users, through OEMs and to
system integrators and also through a worldwide network of distributors, resellers
and value added resellers.

We
develop and market platforms that can be inserted into a host computer (PC or
Macintosh), for encoding video into compressed digital formats and decoding
compressed digital formats into playable video. These platforms connect to the
host computer using the Peripheral Component Interconnect bus (PCI). In
addition, our products enable the transmission of such compressed digital
formats over Digital Video Broadcast (DVB) networks. Our PCI platforms are the
basis for other products (described below). They are also sold to system
integrators who use them to build their own professional video applications.
They are provided with documented SDKs (Software Developer Kits) to facilitate
the development by our customers.

In
addition to the PCI platforms, their SDKs and the software applications that
run above them, we also develop and market integrated devices for encoding and
streaming which we call Media Gateways. These devices do not require
installation of hardware and are remotely managed by either a web interface or
an SNMP management application. They do not use the PCI platforms for encoding
or decoding though they are based on similar technology.

In the
quarter ending March 31, 2008 we released a new product, called the Creator,
which builds on the Video Technology PCI platforms to provide a versatile,
integrated solution for Ingest. Ingest is a broad term used in the professional
video industry to describe the process of acquiring video content for a variety
of processing applications. Some of the more common ingest scenarios include
Program Originators who ingest content produced in their studios (Production)
for editing (Post Production) and for archiving, Cable Operators and IPTV
Operators who ingest content on tape for broadcast and VOD distribution and
Post Production houses that provide editing services to Cable Operators, IPTV
Operators and Program Originators.

IPTV

IPTV
(Internet Protocol Television) is a system where a digital television service
is delivered using the IP over a network infrastructure, which may include
delivery by a broadband connection. For residential users, IPTV is often
provided in conjunction with VOD and may be bundled with Internet services such
as Web access and VoIP. The commercial bundling of IPTV, VoIP and Internet
access is referred to as a Triple Play. IPTV is typically supplied by a
broadband operator using a closed network infrastructure. Over the
years, we have developed our own integration expertise and have developed
business relationships with partners to enable us to provide a turn-key
integrated IPTV headend including
our encoders and transcoders for live TV delivery and partners products for
VOD, for middleware, for conditional access and set-top box. IPTV may be used to deliver television
content over corporate LANs and business networks.

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The
IPTV product line enables telephone operators and service providers to offer TV
services to their subscribers by leveraging their existing digital subscriber
lines, or DSL, and fiber communications infrastructure.

The
primary market of the IPTV product line is the IPTV market which mainly
consists of telephone operators and internet service providers worldwide who
are offering broadband and telephone services. These companies are exploring
ways to leverage their existing networks to add new services, and in
particular, personalized multi-channel television. These networks (sometimes
called access networks) are typically IP enabled over digital subscriber
line, or DSL, a family of digital telecommunication protocols designated to
allow high speed data communication over existing telephone lines or fiber
networks or combinations of these. The new services are offered to home
subscribers, to organizations, gated communities or within hotels for
entertainment.

According
to several market research firms, the IPTV market is expected to grow over the
next few years. For instance, according to Multimedia Research Group (MRG)
market forecast from April 2007, the number of DSL subscribers is expected to
grow from 218 million in 2007 to 353 million in 2011, a compounded annual
growth rate of 13 percent, and the number of global IPTV subscribers is
expected to grow from 14.3 million in 2007 to 63.6 million in 2011, a compound
annual growth rate of 45 percent. However, there is no assurance that the
market will grow according to such expectation and indeed, so far, the growth
of this market has been slower than expected.

In
these applications, our IPTV products are integrated in a video head-end. They
receive content from various analog or digital video sources, like Betacam tape
machines or satellite-receivers and distribute the content over an access
network. Three key features of the IPTV products are their ability to encode,
transcode and transrate uncompressed and/or compressed video feeds. Encoding
means to compress an uncompressed video source (analog or digital);
Transcoding means the conversion of a video bitstream from one compression
format to another and Transrating is the reduction of the bitrate of the
video content without changing the compression format. The IPTV products may
also be used to implement networked personal video recording, or nPVR, by
streaming live channels to a video server in the headend rather than delivering
to subscribers directly. Instead, the server delivers the content to
subscribers allowing pause, continue, rewind and fast forward through its
recently recorded content.

The
IPTV products are also suitable for other applications, complementing the Video
Technologies products, where there is a requirement to handle many channels at
one location, where high availability is crucial or when transcoding or
transrating are needed, such as in certain enterprise and governmental
applications, and monitoring for military and police organizations.

The
IPTV products may also be used to stream live broadcasts to a logging video
server to meet compliance check requirements enforced by government regulation
bodies or by advertisers.

The
MGW5100 is a video streaming platform that lets carriers transport video over
broadband IP or ATM networks such as Digital Subscriber Line, or DSL, and
optical fiber, or FTTx. The MGW5100 encodes, transcodes, transmits and recasts
up to 26 streams in MPEG-1, MPEG-2, H.264 (i.e. MPEG-4 Part 10 or AVC) or Windows
Media Technology (WMT) compatible formats. Our suite of management solutions
allows the operator to configure each MGW5100 device and receive its status
including the receipt of alarms upon malfunction. The management applications
also support channel redundancy whereby a malfunctioning channel is substituted
by a redundant channel. The management applications are implemented using the
Simple Network Management Protocol (or SNMP), which is commonly used by network
equipment vendors, thus enabling smooth integration of our products into common
higher level network management applications.

The
MGW1100 has a smaller form factor than the MGW5100 and supports up to 12
channels. It targets regional headends and other smaller installations where
fewer channels are required.

For
the MGW5100 and MGW1100, we continue the development of the H.264 (i.e.
MPEG-4 Part 10 or AVC) encoders and transcoders by releasing quality
improvements. During 2007, we also added the capability to deliver closed
captions, teletext and subtitles to these products. We believe that these new
features will enable our customers to add new services and will increase our
advantage over competitors.

-18-

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In
the quarter ending December 31, 2007 we released the MGW HD which is a high
quality encoder for High Definition TV (HDTV) in the H.264 format for IPTV
delivery and other applications. H.264 offers a reduction of between 50% and
60% in bitrate compared with MPEG-2 when configured to produce comparable
quality.

In
the quarter ending March 31, 2008 we also first released the EZ TV. EZ TV is an
application that enables the distribution of IPTV over Enterprise networks and
networks used by Military and Government facilities. The EZ TV works with all
Optibase MediaGateways and, in particular, with the IPTV encoder products. A
key feature of the EZ TV system is a web-based desk top player which allows
users to view 1, 4, 9 or 16 simultaneous video channels and is very simple to
deploy in large numbers throughout an organization. The EZ TV also supports IP
settop boxes to allow viewing on TV monitors in addition to computer monitors.

Sales and Marketing

We
sell our products through the combined efforts of our direct internal sales
force and through indirect channels, including independent distributors, system
integrators and resellers. A key element of our sales and distribution strategy
is to cultivate strategic relationships with companies that can promote
reference sales with the potential for significant revenue impact. Our
marketing strategy for IPTV products includes partnering with other vendors and
system integrators to create an IPTV eco-system thus making our offering more
complete and reducing integration complexities for the customer or system
integrator.

The
particular mix of sales and distribution methods we use varies according to
geographic region.

Our
sales efforts in North America, Central America and South America are managed
by Optibase, Inc., our wholly owned subsidiary, which is headquartered in
Mountain View, California. Our North American sales activities are conducted
primarily through our direct sales organization, which focuses on key accounts,
which include telecommunication operators, system integrators and OEM accounts
that offer strategic opportunities or large volume potential. North American
sales efforts are supplemented by our value added resellers, or VAR, channel,
through which our products are sold directly to end-users. North America
accounted for approximately 50% of our total sales in 2005, approximately 45%
of our total sales in 2006 and approximately 47% of our total sales in 2007.

Outside
of North America, the majority of sales are handled via a network of
distributors and resellers that manage both small and large accounts. As a
rule, this channel is responsible for stocking an inventory of our products to
meet immediate local demand, providing first-line sales and technical support
for their customers, and, with the use of co-op funds from us for these
purposes, conducting local marketing efforts, including trade shows, seminars,
advertisements and mailings.

Distributors
also generate and follow up on sales leads, act as the sole interface with
customers, translate our promotional and technical written materials and
endeavor to meet agreed sales targets. Depending on market size and potential,
the number of distributors and other partners in a given geographic region
varies. Each is carefully selected based on its background in video and
networking technology, its knowledge of the local market, its customer base and
its reputation. In addition, we strive to work with partners who will devote
significant time and effort promoting our products and who do not have product
line conflicts. Our distributors do not usually have exclusive rights with
respect to any of our products or market segments, and none of our distribution
agreements limits our ability to independently develop products or to enter
markets. While most of our relationships can be terminated by either party upon
short notice and without significant penalty, we have maintained long-standing
relationships with many of our distributors. Many of our largest distributors
have carried our products for over three years.

Distributor
and direct account relationships outside of North America are managed directly
or indirectly from our headquarters in Israel. In Europe these distributors and
customers are supported by our sales managers in Israel. This local presence
approach brings with it many advantages related to culture and language. Our
office in Beijing, China directs our sales efforts in China and Hong Kong and
those in Japan are aided by our Japanese representative in Tokyo. In India, we
sell our products through our new local sales office. Sales to Asia Pacific or
APAC are managed directly from our headquarters in Israel. European sales
constituted approximately 24% of our total revenues in 2005, approximately 18%
of our total revenues in 2006, and approximately 32% of our total revenues in
2007, while sales in Eastern Asia, including Japan, constituted approximately
17% of our total revenues in 2005, approximately 24% of our total revenues in
2006, and approximately 15% of our total revenues in 2007. Sales in Israel and
other areas outside of North America, Europe and the Far East was approximately
9% of our total revenues in 2005, approximately 13% of our total revenues in
2006 and approximately 6% of our total revenues in 2007. Please also see Item
5.A. Operating Results below.

-19-

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Technology

During
the early nineties, we introduced content creating tools for the PC based on
the MPEG-1 and MPEG-2 specifications. The products are comprised of software
that runs on the PC and controls a PCI (Peripheral Component Interconnect)
hardware encoder that is inserted in an expansion slot on the PC. The main application
for these products is to create compressed audiovisual files that could be
stored on CD and on DVD. These MPEG specifications standardize advanced methods
for the compression, delivery and storage of digital audio and video
information.

From
1995 and onwards we also developed and marketed products that deliver video
over IP networks (a process know as streaming). The first products in this
family, known as Commotion, were implemented on a PC with encoder boards, similar
to those used for the content creation products. From 2001 and onwards we also
developed and marketed streaming products as dedicated custom servers with no
keyboard, monitor or mouse that can be controlled remotely using a Web
application.

With
our acquisition of Viewgraphics Inc. in December 2000, we acquired expertise in
DVB technology, primarily through the MediaPump product. The MediaPump is a PC
PCI board whose functions are to send files over a DVB network from the PC,
receive data over a DVB network to store as a file on the PC, and to provide
certain processing operations for outgoing and ingoing data.

Encoder related
technology

Our
video encoding technology is largely based on the MPEG-1, MPEG-2, MPEG-4
international standards and Part 10 of the MPEG-4 specification, also known as
H.264 and as AVC (Advanced Video Coding) We have developed and released IPTV
products for the delivery of standard definition and high definition video
signals using H.264.

Our
audio encoding technologies include MPEG-1 Layer II encoding, Dolby AC-3
encoding licensed from Dolby and AAC (Advanced Audio Encoding).

We
have implemented some of these audio and video technologies on multimedia DSPs
and others by integrating dedicated silicon components. In most cases we
license the core encoder from a third party and integrate it in the hardware
and software layers of our products.

Our
MPEG-2 encoder products use video encoding technology from LSI Logic. We have
developed an MPEG-4 part 2 encoder on a powerful multimedia DSP from Equator
Technologies for some of our products. Our H.264 technology was developed in
cooperation with a two technology partners, one for the standard definition
encoder and the other for the high definition encoder. We have also developed
an MPEG-2 PCI encoder of high definition video using a dedicated component from
NEL. This encoder is used mostly in our content creation tools, the latest of
which is the Creator, an ingest server for the broadcast and professional video
market.

We
have developed an MPEG-1 Layer II encoder on a dedicated digital signal
processor, or DSP, and have integrated an implementation of a Dolby AC3 audio
encoder, licensed from Dolby, on the same DSP. Our AAC encoders were also
developed in cooperation with technology partners including Fraunhofer.

We
have also implemented a multiplexer component for each of these products
according to the MPEG standards. Multiplexing is the process of combining the
compressed video and audio information to ensure synchronization of the decoded
audio and video signals and to ensure smooth decoder buffer management.

-20-

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Within
some of our products we have developed a patented technology that we call
EverSync to assure the synchronization of both audio and video, even when our
products receive unstable video sources or are subject to random noise and
disconnections. This technique eliminates the need for an external time base
corrector (TBC). In addition, despite the fact that the MPEG and MPEG 2
standards do not support certain lower frame rates, our patented technology
(that we call SmartMux) embodied in the multiplexer enables the generation of
streams with low frame rates, that are compatible with standard MPEG players,
trading smoothness of motion for higher image quality at a given bit rate.

FPGA and Embedded
technology

For
some of our product we have developed proprietary technology running on
field-programmable gate arrays (FPGA) for processing video before encoding.
Some aspects of the technology are designed to stabilize the video input before
it is sent for encoding, others are designed to filter the video and derive a
signal that is easier for the encoder to encode efficiently. Recent
developments in this field enable the scale down of a high definition feed down
to standard resolution for standard definition encoding and the extraction of
closed captions information that are embedded in the video signal.

DVB (Digital Video
Broadcast) technology

With
the MediaPump we provide proprietary technology to record, play and process
MPEG transport streams that containing multiple programs (i.e. services) of
audio and video (Multiple Program Transport Stream, or MPTS). The MediaPump is
capable of multiplexing several programs to create an MPTS. It can also extract
selected programs from an MPTS for storing or further processing.

We
have developed transport and control protocols for the streaming of multimedia
over IP networks, such as the real time transport protocol, or RTP, and the
real time control protocol, or RTCP, that are becoming widely adopted and
standard in the industry. We have also developed smoothing algorithms in our
streaming products that are used to reduce congestion of the network and
prevent the dropping of packets in routers and by other networking interfaces.

SDK (Software
Development Kit) technology

Our
PCI encoders, decoders and DVB boards are exposed by our software development
kits, or SDKs. The SDKs allow system integrators to easily incorporate our MPEG
encoders, decoders and DVB boards into their own digital video applications.
The SDKs have been designed to be forward compatible allowing easy upgrades of
hardware with little changes to the customers application. Content creation technology.

We
are also developing the ability to transcode files from one compression format
to another using our PCI encoding technology. As the handling of high
definition video is typically processing intensive, the use of hardware is
advantageous because it offloads the task from the PC and speeds up the
transcoding tasks.

Management Software
Technology

As
part of the development of our media gateways products we have developed
management software. For some of our products we have implemented Web
applications using the hyper text markup language, or HTML, which can be
accessed by web browsers. For our IPTV products we have developed a
comprehensive management application using SNMP. The application enables the
provisioning of each device and provides monitoring and alarm generation. An
important capability of this management pplication is the management of
automatic, flexible and configurable fail-over between devices to reduce
possible down-time to a minimum.

Transcoding technology

An
important feature developed for the IPTV products is the ability to transcode
one media format to another. We have developed the ability to transcode
compression formats from MPEG-2 to MPEG-4 and to transrate from MPEG-2 at a high
bit rate to MPEG-2 at a lower bit rate. The source can be either a variable bit
rate, or VBR, or constant bit rate, or CBR feed. Some of the technology is
licensed from a technology vendor and integrated into our products. We have
also developed the ability to pass-through specified elements of the
audiovisual information without transcoding, such as closed captions and audio
streams. In addition to transcoding at the compression layer, we have further
enhanced our networking capabilities to perform translation of the network
layer between DVB, IP/Ethernet and ATM according to the needs of the service
provider. With regard to ATM we have developed the capability of transmitting
audiovisual content over native ATM and over IP over ATM.

-21-

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Carrier Class
systems related technology

As
part of the development of the IPTV products, the MGW 5100 and the MGW 1100, we
have implemented such features as redundancy and scalability, no single point
of failure, and the design to meet carrier grade requirements. These features
are required by Telcos (i.e. carriers) and service providers in
order to ensure a reliable service to their customers. An important capability
of our management application is that of flexible and configurable fail-over
management between redundant devices to reduce possible down-time to a minimum.

Research and Development

We
believe that our innovative and versatile technology is at the core of our
strength, and that our ability to enhance our current products, to develop and
to introduce new products, to maintain technological competitiveness and to
meet customer requirements is essential to our future success. Accordingly, we
devote and intend to continue to devote significant human and financial
resources to research and development.

As
part of the process of product development, we work closely with current and
potential customers, dealers, distributors and leading companies in relevant
industries to identify market needs and define appropriate product specifications.
As of June 25, 2008, our research and development department was comprised of
45 employees all of whom are located in our headquarters in Israel. Our
research and development net expenses were $4 million in 2005, $4.2 million in
2006, and $5.4 million in 2007.

Our
research and development efforts have been financed through internal resources
as well as through programs sponsored by the Israeli OCS, in the Israeli
Ministry of Industry and Trade, and the European Union Research and Development
Program. The total funding from these sources was $2.1 million in 2005, $1.9
million in 2006, and $1.8 million in 2007.

Under
the Encouragement of Industrial Research and Development Law, of 1984,
or the R&D Law, and the
terms of the OCS grants we are subject to three main obligations: (i) the
obligation to locally manufacture the OCS supported products; manufacturing the OCS supported products
outside of Israel, that resulted in a reduction if more than 10% of the local
manufacturing rate, is subject to the OCSs prior written approval and the
payment of an increased total amount of royalties, which may be up to 300% of
the grant amount plus interest, depending on the manufacturing volume that is
performed outside of Israel, at an increased annual return rate; (ii) the obligation not to transfer know how,
that was developed as a result of grants received from the OCS (in the
course of an approved plan), outside
the State of Israel; Under section 19B of the R&D Law, the Research
Committee is authorized to approve the transfer of know-how, that results from
research and development made in the course of an approved plan, outside of
Israel pursuant to certain terms,
including payment of a redemption fee; and (iii) the obligation to pay royalties
to the OCS whenever the company
successfully commercializes OCS funded products. Thus, as described above,
the terms of the OCS grants limit us from manufacturing products or
transferring technologies developed using these grants outside of Israel without
special approvals, which may or may not be granted. Even if we receive approval
to manufacture the OCS supported products outside of Israel, we would be
required to pay an increased total amount of royalties, which may be up to 300%
of the grant amount plus interest, depending on the manufacturing volume that
is performed outside of Israel at an increased annual return rate. Israeli Law
for Encouragement of Industrial Research and Development, 1984, permits the
transfer of OCS financed technology outside of Israel, under certain conditions
and subject to receipt of approval from the OCS for such transfer. Through
December 31, 2007, we received grants from the OCS aggregating $7.0
million for certain of our research and development projects. As of December 31,
2007, accrued and paid royalties to the OCS totaled $3.8 million. As of
December 31, 2007 the Company had an outstanding contingent obligation to pay
royalties in the amount of approximately $3.2 million plus interest.

In
addition to the programs mentioned above the OCS provides royalty-free grants
through the MAGNET project which dedicates its funds to the development of
generic technology by consortia of Israeli companies in Israel. We have already
participated in two consortiums under the MAGNET project, MOST and STRIMM and
are currently participating in the NEGEV consortium. The goal of the NEGEV
consortium is to develop the infrastructure and techniques for the processing,
management and delivery of content to facilitate personalized, on-demand
services over broadband and mobile networks. This consortium began operation in
August 2006.

-22-

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Through December 31, 2007, we
recorded grants from the MAGNET, MOST, STRIMM and NEGEV consortiums, aggregating $5.6
million. To maintain our eligibility for these programs and tax benefits, we must continue
to meet conditions, including payment of royalties, amounting to 3%-5% of the sales of the
products and other related revenues generated from such projects, up to 100% of the grants
received, linked to the U.S. dollar and for grants received after January 1, 1999 also
bearing interest at the rate of LIBOR. The obligation to pay these royalties is contingent
on actual sales of the products and in the absence of such sales, no payment is required.

We
are also involved in joint development projects with large European companies
under the auspices of, and with financial assistance from, the European Union
Research and Development Framework Programs. We have been active contributors
in many such projects and have been the coordinator of three: VideoGateway,
MUFFINS and TIRAMISU.

The
VideoGateway project developed a gateway between the narrow band internet and
the next generation broadband internet for the purpose of offering live and
on-demand video content. MUFFINS was established to investigate the problem of
description, delivery and protection of rich-media content, and to propose
different scenarios for using that content. The scenarios include the
definition and search for the content, as well as the delivery and the related
handling of rights management. TIRAMISU proposes a protected framework for the
creation, delivery and consumption of audio-visual media across a wide range of
hybrid networks and platforms.

We
believe that participation in such projects increases our exposure to new
technologies, products and potential customers. Within the EU framework we have
cooperated closely with large European organizations such as France Telecom,
Alcatel, T-Systems, Siemens AG, Fraunhofer, Telefónica I+D and THALES. These
programs provide royalty-free funding to consortia of industrial companies and
academic institutions aimed at improving the competitiveness of European
industry through technological research and development, partnerships and
strategic alliances.

Through
December 31, 2007 we have obtained approvals for grants for fifteen research
and development projects for a total amount of approximately $7.6 million (of
which approximately $7.1 million has already been offset against research and
development expenses).

Service and Support

We
believe that providing a high level of customer service and support is
essential to our success. Since 2005, we have been offering our IPTV customers
two types of Service Level Agreements (SLA) Silver service and Gold service.
The main differences between the two types of services is that SLA is offered
during standard working hours and Gold SLA is available for 24 hours a day, on
all days of the year The gold service level also offers an advance replacement
service. Our technical support personnel provide worldwide services through
each of our main offices in Israel, United States, China, India and Japan. In
the United States, we provide the first-line of support through our wholly
owned subsidiary, Optibase Inc., from the Mountain View office. Outside of the
United States and Israel, our independent distributors provide the first-line
of support in their respective territories, while in Israel, we provide a
second-line of support to those customers. We also support customer inquiries
via a web based Help Desk system to which all our customers are linked,
on-premises support, telephone and e-mail support, and provide additional
technical information on our Internet home page. We also provide a one-year
warranty on our hardware products. In addition, we organize technical seminars
from time to time to further enhance the technical knowledge of distributors
and resellers in the use of our products.

Manufacturing and Sources of Supply

Our
manufacturing facilities, located in Herzliya, Israel, perform procurement of
components, final assembly, testing and quality control of our products. We
out-source assembly of hardware modules to multiple manufacturers in Israel who
work in accordance with our designs and specifications. This outsourcing
strategy has improved product quality and our gross margins. Quality control of
our products is conducted at various production stages, both at facilities
belonging to the subcontractors and at our facilities. We have implemented a
supplier qualification program to ensure subcontractor quality standards. We
monitor printed circuit performance by way of statistical survey and a
reporting system that tracks boards from initial inspection to shipment. To
accommodate increased production levels, we have initiated a program of
subcontracting the manufacturing of high-volume products to manufacturers who
also procure the required components. Under this system, we purchase fully
assembled and tested products at predetermined prices. We intend to continue to
outsource additional products as production levels increase and we are
satisfied as to the quality control of our subcontractors. These types of
arrangements will allow us to focus on the manufacture of low-volume products,
which are generally more complex in nature and require more rigorous assembly,
testing and quality control procedures.

-23-

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Key
components used in our products are presently available from, or supplied by,
only one source and other components are available from limited sources.

|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|v | H.264 SD,
  MPEG I/II, MXF, DnXHD, AAC, Flash, streaming servers and HD video encoding
  tools provided by a technological partner;                                                                                                                                                                                                                                                                                                                                
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|v | Various
  modules, which are integrated in our systems, both for the MGW2000,
  MGW200/400, MGW Flash, MGW5100, MGW 1100, MGW HD and the MGW1000 including:
  Switches supplied by PTI (Performance Technologies Inc.) and Interface, a
  switch supplied by Intel, Hosts supplied by Freescale and Kontron, backplane
  board by Kaparel Corporation Pentium, CPU modules supplied by Kontron and
  Compact Pci platforms supplied by EPS (Israel) TECH 1992 Ltd.;
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|v | Digital
  Signal Processing, or DSP, compression techniques, manufactured by Equator
  Inc. and TI, which are used in our MGW 5100, MGW 1100, MGW 2400, MGE 400 and
  Movie Maker 400 products;                                                                                                                                                                                                                                                                    
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|v | Video
  compression chips manufactured by LSI Logic and NEL;                                                                                                                                                                                                                                                                                                                                                                                                       
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|v | Audio Analog
  to Digital Converters (A/D), Digital to Analog Converters (D/A) and
  decompression chips manufactured by Crystal Semiconductor Corporation, or
  Crystal, a subsidiary of Cirrus Logic, which are included in our encoders and
  decoders;                                                                                                                                                                                                         
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|v | Freescale,
  Inc.s DSPs, which are included in our decoders and encoders;                                                                                                                                                                                                                                                                                                                                                                                         
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|v | A video
  decoding chip manufactured by IBM;                                                                                                                                                                                                                                                                                                                                                                                                                       
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|v | SDI
  interface chips manufactured by Gennum;                                                                                                                                                                                                                                                                                                                                                                                                                      
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|v | Microprocessor
  and PCI bridge devices from Intel that are used in our MediaPump and
  MovieMaker boards;                                                                                                                                                                                                                                                                                                                                                         
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|v | A video
  processing chipset from Gennum, which is used in our MM200s;                                                                                                                                                                                                                                                                                                                                                                                             
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|v | Programmable
  devices by Xilinx, which are used in our Mediapump;                                                                                                                                                                                                                                                                                                                                                                                                 

Although
we generally do not have long term supply contracts with our suppliers, we
have, in the past, been able to obtain supplies of components and raw materials
in a timely manner and upon acceptable terms. We cannot assure you that in the
future we will not face interruptions or delays in the supply of key
components. The design of components to replace any of these limited source
components could require six months or more, and our results of operations
could be adversely affected in the event of an extended interruption or delay.

Competition

Competition
in the markets of both Video Technologies and IPTV product lines is intense and
we expect competition to increase.

The
Video Technologies markets have grown in recent years and have attracted many
competitors. Advances in video encoding technologies and in desk-top processing
capabilities have also enabled sophisticated new applications within these
markets which require an in-depth understanding of customer needs and
significant development efforts. Moreover, the availability of video encoding
technologies has also driven prices for products down within these markets. In
contrast, the IPTV market is still young, but is currently dominated by large
companies that can afford to aggressively promote their products by reducing
prices. To be competitive in each product line, we must continue to respond
promptly and effectively to changing customer preferences, feature and pricing
requirements, technological change and competitors innovations.

The
principal competitors of our Video Technologies products in the Enterprise and
Government markets are VBrick Systems Inc., and InfoValue Computing, Inc. In
the Broadcast markets our competitors for these products include Digital
Rapids, Vela Research Inc., Dektec, VideoPropulsion and CMI and Stradis, Inc.
In the post-production market we compete with Canopus and Matrox. The
post-production market is also characterized by increasing indirect competition
from vendors of software encoders and decoders like Digital Rapids, MainConcept
and Intervideo combined with capture cards from Winnov, Inc. and Viewcast, Inc.

-24-

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The
principal competitors in the IPTV market include Envivio, Thomson, Tandberg
Television ASA, Harmonic Inc., Minerva Inc. Many of these competitors have
substantially greater financial, technical, and marketing resources than
Optibase. Some of our actual and potential competitors may have longer operating
histories, greater name recognition, access to larger customer bases and
significantly greater financial, marketing, technical and other resources than
we do. Our competitors also sell products that provide some of the benefits of
the products that we sell, and we could lose sales to our competitors.
Moreover, some companies in the digital video and streaming market, including
some of our competitors, are participating in business combinations. These
combinations may result in the emergence of competitors who have greater market
share, customer base, sales force, product offering, technology expertise
and/or marketing expertise than we do. As a result, our competitors may be able
to adapt more quickly to new or emerging technologies and changes in customer
requirements or to devote greater resources to the promotion and sale of their
products than we can. Thus, we cannot assure you that we will be able to
compete successfully against current and future competitors, or that we will be
able to make the technological advances necessary to improve or even maintain
our competitive position or that our products will achieve market acceptance.

In
addition, we expect price competition to escalate in the digital video and
streaming market We have consistently attempted to minimize the effect of price
reductions in the market by introducing more sophisticated products at the top
of our product line, and thereby attempt to maintain higher selling prices.
However, competition in the future may force us to further lower product prices
and we may be unable to introduce new products at higher prices. We cannot
assure you that we will be able to compete successfully in this kind of price
competitive environment. Lower prices and reduced demand for our products would
reduce our ability to generate revenue. Failure by us to mitigate the effect of
these pressures through cost reduction of our products or changes in our
product mix could have a material adverse effect on our business, financial
condition and results of operations.

Intellectual Property

Our
future success and ability to compete are dependent, in part, upon our
proprietary technology. We rely on patent, trade secret, trademark, copyright
law, and confidential agreements to protect our intellectual property. Relating
to technologies developed in Optibase Ltd., we hold twelve issued patents, four
granted in Israel, seven granted in the United States, and one in Europe
(verified in France and the United Kingdom). We also have two pending application
in the United States and one in Israel relating to the MGW 5100 (which was
already granted in Europe). In September 2005,certain patents acquired by us in the Media
100 transaction were sold to Acoustics Technology LLC, see Item 10.C. Material
Contracts below. In April 2008 two patents acquired by us in the Viewgraphics
transaction were sold to O.B. Digital
Limited Liability Company.

Effect of Government Regulation on our
Business

Regulation
of our business by the Israeli government affects our business in several ways.
We benefit from certain tax incentives promulgated by the government of Israel,
including programs sponsored by the OCS, in the Israeli Ministry of Industry,
Trade and Labor for the support of research and development activities. We also
obtained funding from the MOST, STRIMM and NEGEV consortia, which are part of
the OCS MAGNET project. The terms of the OCS grants limit us from manufacturing
products or transferring technologies developed using these grants outside of Israel
without special approvals, which may or may not be granted. For further
information see Research and Development above.

We
are subject to the Companies Law and regulations promulgated under that law,
which regulate the activities of companies incorporated in Israel. Please see
the Item 3.D. Risk Factors under the heading Risks Related to Operating in
Israel above, as well as Item 10. Additional Information below for more
information on the effects of governmental regulation of our business.

4.C. Organizational Structure

Optibase
has one wholly owned subsidiary: Optibase, Inc. which was incorporated in 1991 in
California and is currently located in Mountain View, California. Optibase, Inc. manages
our North American sales, marketing and customer support activities.

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Our
sales activities in Europe (including Israel) are conducted through sales
managers. In 1999 and 2000 we established offices in Japan and in China,
respectively, to cultivate closer relationships with local sales forces and
potential system integrators and expand our business development activities in
those local markets. During 2007 we closed our office in Singapore and
focused our attention on the increasing potential we see in the Chinese and Indian
markets. Sales, marketing, and support of our products in Asia Pacific
excluding India are managed from our headquarters in Israel. We are currently
in the process of establishing a new office in India, which will focus on
marketing and supporting our products in this growing market.

In
addition, we hold convertible bonds, which, if converted, will constitute
approximately 34% of the issued and outstanding share capital of V.Box, a
provider of Digital TV and Data Broadcast receiver equipment for Video and Data
applications. We also hold, on a fully diluted basis, approximately
5.38% of Mobixells issued and outstanding share capital, which designs,
develop and markets solutions for mobile rich media adaptation, optimization
and delivery. We further hold approximately 37% of Scopus which is engaged in the development, marketing and
support of digital video networking products that enable network operators to
offer advanced video services to their subscribers. For additional
information, see Item 4.A. History and Development of the Company above.

4.D. Property, Plants and Equipment

Our
headquarters are located in offices occupying approximately 25,385 square feet
in Herzliya Pituach, Israel, of which 2,902 square feet are subleased. Our
lease for this space expires on December 31, 2008 and we expect to extend the
lease for an additional year.

Optibase,
Inc.s headquarters occupy approximately 7,404 square feet in Mountain View,
California. The current lease expires on August 31, 2009.

We rent an office of approximately 1,496 square feet in Beijing, China pursuant
to a one-year lease that will expire in December 2008 and we expect to extend
the laese for an additional year.

We
rent approximately 430 square feet in India. The current lease expires on
February 28, 2009.

Item 4A. Unresolved
Staff Comments

Not
Applicable.

Item 5. Operating and
Financial Review and Prospects

The
following discussion and analysis about our financial condition and results of
operations contain forward-looking statements that involve risks and
uncertainties. Our actual results could differ materially from the results
discussed in the forward-looking statements. Factors that could cause or
contribute to such differences include, but are not limited to, those set forth
under Item 3.D. Risk Factors above and Item 5.D. Trend Information below,
as well as those discussed elsewhere in this Annual Report. You should read the
following discussion and analysis in conjunction with the Selected
Consolidated Financial Data and the Consolidated Financial Statements included
elsewhere in this Annual Report.

Overview

We
provide high quality products that enable the preparation and delivery of
digital video based on MPEG over ATM, DVB, and Internet protocol (IP) and other
packet-based networks through two product lines: Video Technologies and IPTV.

The
Video Technologies product line includes PCI platform for encoding, decoding
and interfacing with DVB networks and Media Gateways enable a variety of
content creation and streaming application. The Video Technologies products
target the broadcast, government, enterprise and post-production markets.

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IPTV
products design, develop and deliver digital SD and HD (High Definition) TV
solutions, from concept to completion for the IPTV market. The IPTV products
are offered by themselves or as part of an end-to-end solution together with
third-party products.

As
new IPTV operators struggle with the complexity of integrating new technologies from many
vendors, it is increasingly clear that it is not enough to provide top-class encoders and
transcoders for this market. Most operators do not have sufficient expertise and must rely
on a system integrator to do this for them. This increases the cost of the solution
significantly to the IPTV operators. Over the last three years, we have developed our own
integration expertise and have developed business relationships with partners to enable us
to provide a turn-key integrated IPTV headend at a lower cost than the larger Telco
integrators.

Over
the last three years, we have developed our own integration expertise and have
developed business relationships with partners to enable us to provide a
turn-key integrated IPTV headend at a lower cost than the larger Telco
integrators.

Our
solutions include Optibase encoders and transcoders for live TV delivery and
partner products for VOD, for middleware and for conditional access. As the
set-top box swiftly becomes the most expensive component of the deployment it
is important that we give our customers the flexibility to choose. Indeed
Optibase solutions are interoperable with a wide range of set-top boxes.

The
primary market of the IPTV product line is the IPTV market which mainly
consists of telephone operators and internet service providers worldwide who
are offering broadband and telephone services. These companies are exploring
ways to leverage their existing networks to add new services, and in
particular, personalized multi-channel television.

During
the last years we are facing a decrease in our Video Technologies product line sales
mainly due to advances in PC technology supporting software products for
standard definition encoding. On the other hand we are experiencing growth in
our IPTV and IPTV related products sales during the last years mainly as a
result of the slow market grow and our increased attention and focus towards
the IPTV target market.

Our
products from both the Video Technologies and IPTV product lines are sold both
directly and through various indirect channels, such as independent
distributors, system integrators, OEMs and resellers.

During
2007 we have continued the development of the H.264 (i.e. MPEG-4 Part 10 or AVC)
encoders and transcoders by releasing quality improvements. During 2007, we
have also added the capability to deliver closed captions, teletext and
subtitles to these products. We believe that these new features will enable our
customers to add new services and will increase our advantage over competitors.

During
2007 we released the MGW HD which is a high quality encoder for High Definition
TV (HDTV) in the H.264 format for IPTV delivery and other applications. H.264
offers a reduction of between 50% and 60% in bitrate compared with MPEG-2 when
configured to produce comparable quality.

In
the quarter ending March 31, 2008 we added two new products to our portfolio EZ
TV and Creator. EZ TV is an application that enables the
distribution of IPTV over Enterprise networks and networks used by Military and
Government facilities. The creator is used for building on the Video Technology PCI platforms to provide a versatile,
integrated solution for Ingest. Ingest is a broad term used in the professional
video industry to describe the process of acquiring video content for a variety
of processing applications.

We
generate most of our revenues from three territories: North America, Europe,
including Israel, and Asia Pacific. During 2007, these three regions accounted
for 47%, 38% and 15% of our revenues, respectively.

As
of December 31, 2007, we had available cash, cash equivalents, long term
investments and other financial investments net of approximately $18.4 million.
As of June 25, 2008, we have available cash, cash equivalents, long term
investments and other financial investments net of approximately $11.7 million.
For information regarding the investment of our available cash, see Item 5.B.
Liquidity and Capital Resources below.

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In
a series of transactions conducted during 2007 and the first quarter of 2008,
we purchased an aggregate of 5,105,223 ordinary shares of Scopus, representing
approximately 37% of Scopus issued and outstanding share capital, for an
aggregate consideration of $28.6 million. See Item 4.A. History and
Development of the Company above. We accounted for the investment in Scopus in
accordance with the provision of APB 18, and the equity method of accounting
was applied. As such, the purchase price has been allocated to the assets
acquired and the liability assumed based on their fair value at the dates of
acquisition. The fair values of the identified tangible and intangible assets
were established based on an independent valuation study performed by a
third-party specialist. The excess of the purchase price over the fair value of
the net tangible and intangible assets acquired has been recorded as goodwill
totaling approximately $1 million.

In
addition, we hold interests in V.Box and Mobixell, see Item 4.A.
History and Development of the Company above. During 2007, we continued
to invest an additional $325,000 in V.Box, in order to retain our investment
which represents approximately 34% of V.Box. The investment was made by means of a promissory note
bearing no interest and no linkage differentials.

We
use the U.S. dollar as our functional currency. Our consolidated financial
statements are presented in U.S. dollars and prepared in accordance with
generally accepted accounting principles in the U.S., or U.S. GAAP. In 2007,
most of our revenues were denominated in U.S. dollars and we expect that a
significant portion of our revenues will continue to be denominated in U.S.
dollars, with a smaller portion denominated in Euros and other currencies. Our
expenses to date have been incurred, in almost equal parts, in U.S. dollars or
currencies linked to the U.S. dollar, and in New Israeli Shekels. Our
transactions denominated in currencies other than the U.S. dollar are converted
into U.S. dollars and recorded based on the exchange rate at the time we issue
the invoice for the transaction. Our headquarters are located in Herzliya
Pituach, Israel; our subsidiary facilities in the United States are located in
Mountain View, California. We maintain offices in Japan, China and India in
order to establish and expand our local presence at the markets and use the
advantages, related to culture and language, of that approach.

Revenues and
Sales

The
following table sets forth, for the periods indicated, the total consolidated
sales (in thousands) derived from each of our product lines.

|                 |  |                         |        |      |   |        |  |   |        | 
|---------------- |  | ----------------------- | ------ | ---- | - | ------ |  | - | ------ | 
|                 |  | Year Ended December 31, |       
|Product Line     |  | 2005                    |        | 2006 |   | 2007   | 
|                 |  |                         |        |      |   |        | 
|Video Technology |  | $                       | 15,316 |      | $ | 12,060 |  | $ | 8,923  | 
|IPTV             |  |                         | 4,027  |      |   | 5,917  |  |   | 14,054 | 
|                 |  |                         |        |      |   |        |  |   |        | 
|Total            |  | $                       | 19,343 |      | $ | 17,977 |  | $ | 22,977 | 

Our
level of revenues fluctuated in recent years from $19.3 million in 2005, to $18
million in 2006 and to $23 million in 2007. The increase in our total sales in
2007 compared to 2006 can mainly be attributed to increase in our IPTV and IPTV
related products sales which were partially offset by the decrease in our Video
Technology product line sales which is a result of our continuing efforts to
focus in the IPTV market and allocation of sales efforts and resources towards
it. The decrease in our total sales in 2006 compared to 2005 can be mainly
attributed to the decrease in our Video Technology product line sales. The IPTV
and IPTV related products sales generated revenues of approximately $14.1
million in the 2007 compared to approximately $6 million in 2006 and
approximately $4 million in 2005. The Video Technology product line sales
generated revenues of approximately $8.9 million in the 2007 compared to
approximately $12.1 million in the 2006 and approximately $15.3 million in
2005.

Our
level of net losses fluctuated in recent years from $3.5 million in 2005, to
$3.1 million in 2006 and to $7.2 million in 2007. The increase in our net loss
in 2007 compared with
2006 can be mainly attributed to the significant increase in our other
expenses, which reflect the amortization of tangible and intangible assets
acquired, equity in loss of Scopus and impairment losses of V.Box, and the
decrease in our financial income partially offset by the decrease in our
operational loss. The decrease in our net loss in 2006 compared with 2005 can be mainly attributed to the decrease in other
expenses, which reflect the amortization of intangible assets acquired
and impairment losses in
connection with our investment in V.Box. As of December 31, 2007, we had
accumulated losses of $80 million.

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The
following table sets forth, for the periods indicated, the percentage of total
consolidated sales derived from sales into each of the regions identified in
the table, regardless of the operating unit, which generated the sale.

|                                    |  |                         |      |      |   |    |  
|----------------------------------- |  | ----------------------- | ---- | ---- | - | -- | -
|                                    |  | Year Ended December 31,
|Region                              |  | 2005                    | 2006 | 2007
|                                    |  |                         |      |      |   |    |  
|North America                       |  | 50                      | %    | 45   | % | 47 | %
|Europe                              |  | 24                      | %    | 18   | % | 31 | %
|Eastern Asia                        |  | 17                      | %    | 24   | % | 15 | %
|Other countries, including
  Israel |  | 9                       | %    | 13   | % | 7  | %

The
portion of our revenues, as a percentage of total sales and in dollar amounts,
derived from sales into North America and Europe increased in 2007 compared to
2006 while the portion of sales into Eastern Asia and other countries including
Israel decreased. The increase in sales into Europe can be mainly attributed to
the increase of our IPTV and related IPTV products sales in this region, on the
other hand the decrease in sales into Eastern Asia can be mainly attributed to
the decrease in sales volume to some countries in the region such as Japan and
Malaysia. We sell directly to system integrators, OEMs and value-added
resellers, or VARs. Outside of North America, we also sell to distributors.
Sales of our products to system integrators can involve a lengthy process and
the timing of volume orders from system integrators can be difficult to
forecast. As a result, revenues may fluctuate from quarter to quarter depending
on the timing and volume of orders. Since these types of customers typically
request initial delivery within four to eight weeks of their placement of
orders, we have historically had a minimal backlog of orders.

The
majority of our revenues are derived from sales of our standard products.
Additionally, from time to time, we have the opportunity to develop customized
products, which require varying amounts of modifications to our standard
products and existing technology. Dollar amount and the percentage of revenues
represented by standard products and customized products, respectively,
fluctuate from period to period depending on a variety of factors, including
the number, size and timing of customized product activities.

Cost of revenues

Cost
of revenues consists primarily of raw material costs, costs of subcontracting
manufacturing and assembly, labor expense, write-off of obsolescence inventory,
royalty payments made to the Israeli OCS, amortization of capitalized software
development costs, other acquisition related costs and allocated overhead
attributable to our production operations.

Research and development expenses

Research
and development expenses, net, consist primarily of labor expenses,
development-related raw materials and sub contractors services, acquisition
related costs and stock option compensation charges and related overheard,
offset by grants from the OCS, including the OCS MAGNET project, and from the
European Union.

Sales and marketing expenses

Selling
and marketing expenses, net, consist primarily of compensation expenses,
promotional expenses, travel costs and related overhead and expenses.

General and administrative
expenses

General
and administrative expenses consist primarily of fees to outside consultants,
legal and accounting fees, stock option compensation charges and certain office
maintenance costs.

Other income (expenses), Net

Other
expenses consist primarily of amortization of intangible assets in connection
with our investments in affiliates, equity gains or losses, capital gains or
losses and other expenses or income.

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Financial income (expenses),
Net

Financial
expenses consist primarily of interest we paid in connection with bank credit
lines and losses from realization of securities and financial instruments.
Financial income consists mainly of interest received on deposits and other
financial assets held in our bank accounts and gains from realization of
securities and financial instruments. Our exchange differences occur primarily
as a result of the change of the NIS value relative to the U.S. dollar.

Taxes

As
of 2007, Israeli companies are generally subject to a corporate income tax rate
of 29%. The income tax rate for Israeli companies is scheduled to be gradually
reduced to 25% by 2010. We were granted Approved Enterprise status under the
Law for the Encouragement of Capital Investment, 1959 which allow us to enjoy
two alternative tax benefits. Under one of the alternatives, a companys
undistributed income derived from an Approved Enterprise will be exempt from corporate 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 of 10%-25% for the remainder of the benefits
period depending on the level of foreign investment. See also Item 10.E.
Taxation under the heading Israeli Taxation- Tax benefits under the Law for
the Encouragement of Capital Investment, 1959 below. The period during which
we are entitled to receive these benefits is limited to seven or ten years from
the first year that taxable income is
generated, 12 years from commencement of production or within 14 years from the
date of approval of the Approved Enterprise status. A recent amendment to the
Law, which has been officially published effective as of April 1, 2005 has
changed certain provisions of the Law. An eligible investment program under the
amendment will qualify for benefits as a Privileged Enterprise (rather than the
previous terminology of Approved Enterprise). See also Item 10.E. Taxation
under the heading Israeli Taxation- Tax benefits under the Law for the
Encouragement of Capital Investment, 1959 below.

We
have final tax assessments through the tax year 2001. On December 27, 2007, we
received from the Israeli Tax Authorities a Tax Assessment (the Assessment)
based upon best judgment for the years 2002-2003. According to the
Assessment, the Tax Authorities reduced our losses for tax purposes, for those
years and imposed a tax obligation of approximately NIS 1.000 million
(approximately $285,000). We have reservations with respect to various
parts of such Assessment and filed an appeal with the Israeli Tax Authorities.
On May 28, 2008, we received from the Israeli Tax Authorities a Tax Assessment (the
Second Assessment) based upon best judgment for the years 2004-2005. In the
Second Assessment, the Tax Authorities reduced our losses for tax purposes, for
those years and imposed a tax obligation of approximately NIS 669,000
(approximately $190,000). We have reservations with respect to various parts of
the Second Assessment and intend to file an appeal with the Israeli Tax
Authorities.

As
of December 31, 2007, we had approximately $42 million of net operating loss
carry-forwards for Israeli tax purposes which we will have to utilize before we
can make use of the tax benefits arising from our Approved Enterprise status.
These net operating loss carry-forwards have no expiration date.

5.A. Operating Results

The
following table sets forth, for the years ended December 31, 2005, 2006 and
2007 statements of operations data as percentages of our revenues:

|                                           |  |  |                        |    |      |       |      |  |       |   
|------------------------------------------ |  |  | ---------------------- | -- | ---- | ----- | ---- |  | ----- | --
|                                           |  |  | Year Ended December 31 |   
|                                           |  |  | 2005                   |    | 2006 |       | 2007
|                                           |  |  |                        |    |      |       |      |  |       |   
|Revenues                                   |  |  | 100.0                  | %  |      | 100.0 | %    |  | 100.0 | % 
|Cost of revenues                           |  |  | 40.4                   |    |      | 42.9  |      |  | 49.6  |   
|Gross margin                               |  |  | 59.6                   |    |      | 57.1  |      |  | 50.4  |   
|Operating expenses:                        |  |  |                        |    |      |       |      |  |       |   
|Research and development, net              |  |  | 20.7                   |    |      | 23.4  |      |  | 23.3  |   
|Selling and marketing, net                 |  |  | 45.4                   |    |      | 46.1  |      |  | 34.4  |   
|General and administrative                 |  |  | 9.8                    |    |      | 11.9  |      |  | 9.9   |   
|Total operating expenses                   |  |  | 75.9                   |    |      | 81.4  |      |  | 67.6  |   
|Operating loss                             |  |  | (16.3                  | )  |      | (24.3 | )    |  | (17.2 | ) 
|Other income expenses, net                 |  |  | (3.2                   | )  |      | (1    | )    |  | (1.4  | ) 
|Financial income (expenses), net           |  |  | 8.2                    |    |      | 7.8   |      |  | (0.1  | ) 
|loss
  before provision for tax            |  |  | (11.3                  | )  |      | (17.5 | )    |  | (18.7 | ) 
|Provision for tax                          |  |  |                       |    |      |      |      |  | (0.3  | ) 
|Net loss after income tax                  |  |  | (11.3                  | )  |      | (17.5 | )    |  | (19   | ) 
|Equity in loss                             |  |  |                       |    |      |      |      |  | (12.1 | ) 
|Net loss from continuing operations        |  |  | (11.3                  | )  |      | (17.5 | )    |  | (31.1 | ) 
|(Loss) Income from Discontinued Operations |  |  | (6.5                   | )  |      | 0.1   |      |  | (0.1  | ) 
|Net loss                                   |  |  | (17.8                  | )% |      | (17.4 | )%   |  | (31.2 | )%

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Results of Operations for the Years Ended
2007 and 2006

In
June 2004, we acquired certain assets and liabilities of Media 100 Inc. as part
of a pre-packaged bankruptcy filing of Media 100. In September 2005, we entered
into an agreement for the sale of our Digital Non-Linear Editing operation to
Artel Software Corp. for details regarding the sale agreement, see Item 10.C.
Material Contracts below. In December 2006, based on recent assessments in
accordance with the guidance SFAS 144 and EITF 03-13, we have decided to
present the Digital Non-Linear Editing product line operation as discontinued
operations and as such all amounts related to the operational results of the
Digital Non Linear Editing product line presented accordingly. For further
information on the digital non linear transactions see Item 5. Operating and
Financial Review and Prospects under the heading Overview above. During 2007
and beginning of 2008 we purchased in a series of transactions, approximately
37% of Scopus share capital, for an aggregate consideration of $ 28.6 million.
For addition information, see Item 4.A. History
and Development of the Company above.

Revenues. Our revenues increased by 27.8%
to $23 million in 2007 from $18 million in 2006. The increase can mainly be
attributed to the increase in our IPTV and IPTV related products sales by
approximately 138% partially compensated by the decrease in sales of our Video
Technology product line, mainly in Europe North America.

Cost of Revenues. Cost of revenues as a
percentage of revenues increased to approximately 49.6% in 2007 compared to
approximately 42.9% in 2006, and amounted to $11.4 million in 2007 compared to
$7.8 million in 2006. The increase can be mainly attributed to the increased
sales of our IPTV and IPTV related products, including third parties products,
in which the cost of materials is relatively higher than the Video Technology
products. Our cost of revenues may fluctuate as a percentage of revenues
depending on our product mix, changes in raw materials cost and other factors.

Research and Development Expenses, Net.
Our net research and development expenses increased by approximately 27.4% to
$5.4 million in 2007 from $4.2 million in 2006, while remaining relatively the
same as a percentage of revenues, net research and development expenses were
approximately 23.3% in 2007 and approximately 23.4% in 2006. The dollar
increase in research and development expenses can primarily be attributed to
the increase in salaries and related costs mainly as a result of an increase in
our research and development headcount. The dollar increase can also be
attributed to the increase in other expenses mainly subcontractors costs.
Research and development grants received from the OCS, including the OCS MAGNET
project, and from the European Union decreased to approximately $1.8 million in
2007 from approximately $1.9 million in 2006.

Selling and Marketing Expenses, Net. Our
net selling and marketing expenses decreased approximately by 4.7% to $7.9
million in 2007 from $8.3 million in 2006. As a percentage of revenues, net
selling and marketing expenses decreased to approximately 34.4% in 2007 from
approximately 46.1% in 2006. The decrease in selling and marketing expenses can
be primarily attributed to the decrease in our sales offices expenses as a
result of closing our Singapore representation office. Selling and marketing
expenses may fluctuate as a percentage of revenues, depending, in part, on
fluctuations in the level of revenues.

General and Administrative Expenses.
General and administrative expenses increased approximately by 6.7% to $2.3
million in 2007 from $2.1 million in 2006. As a percentage of revenues, general
and administrative expenses decreased to approximately 9.9% in 2007 from
approximately 11.9% in 2006. The increase in dollar amount can be mainly
attributed to an increase in our expenses for professional services and
consulting.

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Operating
loss. As a result of
the foregoing, we recorded operating loss of $4 million in 2007 compared with
an operating loss of $4.4 million in 2006. The decrease in the operational loss
can be primarily attributed to the increase in our gross profit as a result of
the increase in our revenues, the decrease in our selling and marketing costs,
partially compensated by the increase in our research and development costs.

Other Income (Expenses), Net. We recorded
other expenses, net, of $327,000 in 2007, compared to other expenses, net of
$171,000 in 2006. In 2007 and 2006 we recorded expenses totaling approximately
$325,000 and $173,000, respectively, in respect of our investment in V.Box by
following the guidelines of the hypothetical liquidation method.

Financial Income (Expenses), Net. We recorded financial expenses, net of
$31,000 in 2007, compared with financial income of $1.4 million in 2006. The
decrease can be attributed to the decrease in interest income totaled to
$804,000 in 2007 compared with $1.6 million in 2006, the decrease can be also
attributed to impairment charges we recorded in connection with some of our
structured notes and corporate bonds totaled to $582,000 compared to $0 in
2006. The decrease can be also attributed to the increase in our utilized
portion of credit lines during the year which resulted in an increase in our
interest expenses totaled to $359,000 in 2007 compared to $164,000 in 2006. For
additional details regarding our structured notes, see Item 3.D. Risk Factors
under the heading Risks Relating to the Economy, Our Financial Condition and
Shareholdings above and Item 11 Quantitative
and Qualitative Disclosure About Market Risk under the heading Investment Risk below.

Taxes Income (Expenses), Net. Effective January 1, 2007, we
adopted the provisions of FASB Interpretation No. 48 (FIN 48). Under the
requirements of FIN 48, we reviewed all of our tax positions and determined
whether the position is more-likely-than-not to be sustained upon examination
by regulatory authorities. Accordingly, during 2007 we have recorded a provision
for taxes of approximately $73,000.

Equity in loss. In connection with our
investment in Scopus we recorded equity in loss of approximately $2.8million in
2007, as a result of our conclusion that our investment in Scopus qualifies
for use of the equity method.

Net Income (Loss) from Continuing Operations.
We recorded net loss of $7.1 million in 2007, compared with a net loss of $3.1
million in 2006. The increase in our net loss from continuing operations can be
mainly attributed to the increase in our equity in loss by approximately $2.8
million, and the decrease in our financial income by approximately $1.4
million, partially offset buy the decrease in our operational loss by
approximately $426,000.

Discontinued Operation. In the fourth
quarter of 2006 based on recent assessments and in accordance with the guidance
of SFAS 144 and EITF 03-13, we have decided to present the Digital Non Linear
product line operation, which was sold in the third quarter ending September
30, 2005, as discontinued operations. Net loss related to discontinued
operation in 2007 totaled to $30,000, compared to net Income of $15,000 in
2006.

Net Income (Loss). We recorded net loss of
$7.2 million in 2007, compared with a net loss of $3.1 million in 2006. The
increase in our net loss can be mainly attributed to the increase in our equity
in loss by approximately $2.8 million and the decrease in our financial income
by approximately $1.4 million. The decrease in our net loss was partially offset
by the decrease in our operational loss by approximately $426,000 as a result
of an increase in our gross profit which was followed by an increase in our
sales.

Results of Operations for the Years Ended
2006 and 2005

In
June 2004, we acquired certain assets and liabilities of Media 100 Inc. as part
of a pre-packaged bankruptcy filing of Media 100. In September 2005, we entered
into an agreement for the sale of our Digital Non-Linear Editing operation to
Artel Software Corp. for details regarding the sale agreement, see Item 10.C.
Material Contracts below. In December 2006, based on recent assessments in
accordance with the guidance SFAS 144 and EITF 03-13, we have decided to
present the non-linear editing product line operation as discontinued
operations and as such all amounts related to the operational results of the
digital non linear product line presented accordingly.

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Revenues. Our revenues decreased by 7.1% to $18
million in 2006 from $19.3 million in 2005. The decrease can mainly be
attributed to the decline in our Video Technology product line sales by
approximately 21% partially compensated by the increase in sales of the IPTV
product line, mainly in Europe and Asia Pacific.

Cost of Revenues. Cost of revenues as a
percentage of revenues increased to approximately 42.9% in 2006 compared to
approximately 40.4% in 2005, an increase of approximately 3%, and amounted both
in 2005 and 2006 to $7.8 million. The slight increase can be mainly attributed
to the increased sales of our IPTV products in which the cost of materials is
relatively higher than the Video Technology product line. Our cost of revenues
may fluctuate as a percentage of revenues depending on our product mix, changes
in raw materials cost and other factors.

Research and Development Expenses, Net.
Our net research and development expenses increased by approximately 5.2% to
$4.2 million in 2006 from $4 million in 2005. As a percentage of revenues, net
research and development expenses increased to approximately 23.4% in 2006 from
approximately 20.7% in 2005. The increase in research and development expenses
can primarily be attributed to the decrease in our research and development
grants received from the OCS and the European Union by approximately $215,000
and compensation expenses, due to the implementation of SFAS 123R, totaling approximately $268,000, partially
offset by the reduction of other expenses mainly subcontractors costs. Research
and development grants received from the OCS, including the OCS MAGNET project,
and from the European Union decreased to approximately $1.9 million in 2006
from approximately $2.1 million in 2005.

Selling and Marketing Expenses, Net. Our
net selling and marketing expenses decreased approximately by 5.8% to $8.3
million in 2006 from $8.8 million in 2005. As a percentage of revenues, net
selling and marketing expenses increased to approximately 46.1% in 2006 from
approximately 45.4% in 2005. The decrease in selling and marketing expenses can
be primarily attributed to the decrease in salaries and related costs which was
a result of departure of employees mainly in our U.S base company. Selling and marketing expenses may fluctuate as a percentage of
revenues, depending, in part, on fluctuations in the level of revenues.

General and Administrative Expenses.
General and administrative expenses increased approximately by 12.8% to $2.1
million in 2006 from $1.9 million in 2005. As a percentage of revenues, general
and administrative expenses increased to approximately 11.9% in 2006 from
approximately 9.8% in 2005. The increase in dollar amount can be mainly
attributed to an increase in our expenses for professional services, increase
in our bad debt expenses and compensation expenses, due to the implementation
of SFAS 123R.

Operating Income. As a result of the
foregoing, we recorded operating loss of $4.4 million in 2006 compared with an
operating loss of $3.2 million in 2005. The decrease in the operational loss
can be primarily attributed to the increase in research and development costs,
the increase in our general and administrative expenses and the decrease in our
revenues.

Other
Income (Expenses), Net.
We recorded other expenses, net, of $171,000 in 2006, compared to other
expenses, net of $622,000 in 2005. In 2006 and 2005 we recorded expenses
totaling approximately $173,000 and $622,000, respectively in respect of our
investment in V.Box by following the guidelines of the hypothetical liquidation
method.

Financial Income (Expenses), Net. We recorded financial income, net of
$1.4 million in 2006, compared with $1.6 million in 2005. The decrease can be
mainly attributed to the continuing increase in the 6-month Libor rate during
2006, which resulted in our continuing loss of interest on the structured notes
we acquired. For additional details regarding our structured notes, see Item
3.D. Risk Factors under the heading Risks Relating to the Economy, Our
Financial Condition and Shareholdings above and Item 11 Quantitative and Qualitative Disclosure About
Market Risk under the heading Investment Risk below.

Net Income (Loss) from Continuing Operations.
We recorded net loss of $3.1 million in 2006, compared with a net loss of $2.2
million in 2005. The increase in our net loss from continuing operations can be
mainly attributed to the decrease in our Gross profit as a result of the
decrease in our sales partially offset buy the decrease in other expenses,
representing Impairment losses of our subsidiary V.Box, by approximately
$450,000.

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Discontinued Operation. In the fourth
quarter of 2006 based on recent assessments and in accordance with the guidance
of SFAS 144 and EITF 03-13, we have decided to present the Digital Non Linear
product line operation, which was sold in the third quarter ending September
30, 2005, as discontinued operations. Net income related to discontinued
operation in 2006 totaled to $15,000, compared to net loss of $1.3 millions in
2005.

Net Income (Loss). We recorded net loss of
$3.1 million in 2006, compared with a net loss of $3.4 million in 2005. The
slight decrease in our net loss can be mainly attributed to the termination of
the Digital Non Linear Editing product line activity during 2005, this
activity, which was classified as discontinued operation, (see Item 5.
Operating and Financial Review and Prospects under the heading Overview
above) generated a net loss of $1.3 millions in 2005 compared to net revenues
of $15,000 in 2006. The decrease can also be attributed to the decrease in our
other expenses, representing Impairment losses of our subsidiary V.Box, by
approximately $450,000. The decrease in our expenses was offset by the decrease
in our sales and as a result the decrease in our gross profit by approximately
$1.3M.

Critical Accounting Policies

Our
consolidated financial statements are prepared in accordance with U.S. GAAP.
These accounting principles require management to make certain estimates,
judgments and assumptions based upon information available at the time that
they are made, historical experience and various other factors that are
believed to be reasonable under the circumstances. These estimates, judgments
and assumptions can affect the reported amounts of assets and liabilities as of
the date of the financial statements, as well as the reported amounts of
revenues and expenses during the periods presented.

In
many cases, the accounting treatment of a particular transaction is
specifically dictated by GAAP and does not require managements judgment in its
application. There are also areas in which managements judgment in selecting
among available alternatives would not produce a materially different result.
Our management reviewed these critical accounting policies and related
disclosures with our Audit Committee. See Note 2 to our Consolidated Financial
Statements, which contain additional information regarding our accounting policies
and other disclosures required by U.S. GAAP.

Our
management believes the significant accounting policies which affect
managements more significant judgments and estimates used in the preparation
of our consolidated financial statements and which are the most critical to aid
in fully understanding and evaluating our reported financial results include
the following:

|  |                                                                       
|- | ----------------------------------------------------------------------
|v | Revenue
  recognition;                                                
|  |                                                                       
|v | allowance
  for doubtful debts;                                       
|  |                                                                       
|v | Inventories
  valuation;                                              
|  |                                                                       
|v | Impairment
  long- lived assets;                                      
|  |                                                                       
|v | Impairment
  of other long- term investment;                          
|  |                                                                       
|v | Impairment
  and classifications of marketable securities investments;
|  |                                                                       
|v | Accounting
  for stock-based compensation; and                        
|  |                                                                       
|v | Contingencies.                                                        
|  |                                                                       
|v | Income taxes                                                          

Revenue recognition

We
generate revenues mainly from the sale of hardware products and to a lesser
extent from sales of software products. We sell our products worldwide directly
and through distributors, systems integrators, VARs and OEMs who are considered
end-customers.

Revenues
from product sales in
which the software is incidental to the hardware are recognized in accordance with Staff Accounting Bulleting No. 104,
Revenue Recognition in Financial Statements (SAB No. 104), when persuasive
evidence of an agreement exists, delivery of the product has occurred, the fee
is fixed or determinable and collectibility is probable. Upon delivery, titles
and risks are transferred to the customer and no significant obligations exist
after delivery has occurred. Estimated warranty costs, which are insignificant,
are based on our past experience and are accrued in the financial statements.

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Revenues
from sale of products that include post customer support are recognized in
accordance with Emerging Issues Task Force (EITF) Issue No. 00-21, Revenue
Arrangements with Multiple Deliverables (EITF 00-21) a multiple-element
arrangement (an arrangement that involves the delivery or performance of
multiple products, services and/or rights to use assets) is separated into more
than one unit of accounting, if the functionality of the delivered element(s)
is not dependent on the undelivered element(s), there is vendor-specific
objective evidence (VSOE) of fair value of the undelivered element(s) and
delivery of the delivered element(s) represents the culmination of the earnings
process for those element(s). If these criteria are not met, the revenue is
deferred until such criteria are met or until the period in which the last
undelivered element is delivered.

Revenues
from sale of products that require significant customization, integration and
installation are recognized based on SOP 81-1, Accounting for Performance of
Construction-Type and Certain Production-Type Contracts, according to which revenues
are recognized on a percentage of completion basis. Percentage of completion is
determined based on the Output Method, upon completion of milestones, when
collectibility is probable. After delivery of milestone, if uncertainty exists
about customer acceptance, revenues are not recognized until acceptance. Provisions
for estimated losses on uncompleted contracts are recognized in the period in
which the likelihood of the losses is identified.

Revenues
from product sales in which the software is fundamental
to the hardware are recognized
in accordance with Statement of Position 97-2, Software Revenue Recognition,
as amended (SOP No. 97-2). SOP No. 97-2 generally requires revenue earned on
software arrangements involving multiple elements to be allocated to each
element based on the relative fair value of the elements. In addition, we
adopted Statement of Position 98-9, Modification of SOP 97-2, Software Revenue
Recognition with Respect to Certain Transactions, (SOP No. 98-9). SOP No.
98-9 requires that revenue be recognized under the residual method when
Vendor Specific Objective Evidence (VSOE) of Fair Value exists for all
undelivered elements and VSOE does not exist for all of the delivered elements.
Under the residual method any discount in the arrangement is allocated to the
delivered elements.

Maintenance
and support revenue included in multiple element arrangements is deferred and
recognized on a straight-line basis over the term of the maintenance and
support agreement. The VSOE of fair value of the undelivered elements
(maintenance and support), is determined based on the renewal rate charged when
these elements are sold separately.

Amounts
received from customers for whom revenue has not yet been recognized, are presented
as deferred revenues.

We
assess collection based on a number of factors, including past transaction
history, credit worthiness of the customer and in some instances a review of
the customers financial statements. We insure a substantial part of our
customers with credit insurance in cases of bankruptcy.

Our
arrangements do not generally include an acceptance requirement. However if
such an acceptance provision exists, then revenue recognition is deferred until
written acceptance of the product has been received from the customer. All of
our agreements in which revenues are recognized are non-refundable and
non-cancelable.

Allowance for doubtful debts

We
review on a continuing basis the ability to collect on the trade accounts
receivable and the adequacy of the allowance for doubtful debts against the
trade receivables. We specifically analyze customer accounts, account
receivable aging reports, history of bad debts and the business or industry
sector to which they belong, customer concentrations, customer
credit-worthiness, current economic trends and any other pertinent factors that
come to light and to our attention. Generally a provision will be made when a
trade receivable becomes 90 days past due. In exceptional cases, a provision
after 90 days past due will be waived when, after due diligence with the
customer, we are confident that the receivable is still collectible and the
customer has demonstrated that payment is forthcoming. In addition, we provide
approximately 2% of the trade receivable amount as a general provision for
doubtful debts. As of December 31, 2007, our provision for doubtful debt was
approximately $367,000.

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Inventories valuation

Significant
judgment is required to determine the reserve for obsolete or excess inventory.
Inventory on hand may exceed future demand either because the product is
outdated or obsolete, or because the amount on hand is more than can be used to
meet future need, or excess. We provide for the total value of inventories that
we determine to be obsolete based on criteria such as customer demand and
changing technologies. We value our inventories at the lower of cost or market
price.

Impairment of Long- Lived Assets

Our
business acquisitions resulted in goodwill and other long-lived assets. We
periodically evaluate our goodwill and long-lived assets for potential
impairment indicators. Our judgments regarding the existence of impairment
indicators are based on legal factors, market conditions and operational
performance of our acquired businesses and investments.

The
determination that the carrying value of intangibles, long-lived assets and
goodwill arising on the purchase of intellectual property may not be
recoverable is based upon the existence of one or more of the above factors. We
assess whether impairment exists by conducting an impairment review in which we
compare the carrying value of the assets to their fair value in accordance with
SFAS No. 142, which became effective in 2002.

Impairment of other long- term investment

We
have made investments in companies, which management believes is in our best
interest and may promote our strategic objectives. Before investments are
executed, our executive management and our board of directors approve them.
Generally, management designates an executive staff member to either serve on
the board of directors of the investee as a voting member or serve as an
observer. This process assists management in monitoring the investment and in determining
when an impairment review of the investment may be required. Our management
performs a review of its investments on a quarterly basis to determine if a
provision for impairment is required. This process, while based on reasonably
objective evidence supplied by the entity in which we invest, is combined with
due diligence sought from general economic trends and indicators. Our
investment in companies: (i) is reviewed for impairment whenever events or
changes in circumstances indicate that the carrying amount of an investment may
not be recoverable, in accordance with Accounting Principles Board Opinion No.
18, The Equity Method of Accounting for Investments in Common Stock, (APB
18); (ii) is reviewed for impairment whenever events or changes in circumstances
indicate that the carrying amount of an investment may not be recoverable, in
accordance with SAB 59.
Significant management judgment is made when conducting these reviews and
future developments in the entity invested in may result in the impairment
provision becoming a write-off or reversed to some extent.

Impairment and classifications of marketable
securities investments

As
of December 31, 2007 all marketable securities investments are classified as
available for sale and recorded at fair value, and unrealized investment gains
and losses are reflected in shareholders equity. Investment income is recorded
when earned. Investments are reviewed periodically to determine if they have
suffered an impairment of value that is considered other than temporary. If
investments are determined to be impaired, a capital loss is recognized at the
date of determination. Testing for impairment of investments also requires
significant management judgment. The identification of potentially impaired
investments, the determination of their fair value and the assessment of
whether any decline in value is other than temporary are the key judgment
elements. The discovery of new information and the passage of time can
significantly change these judgments. Revisions of impairment judgments are
made when new information becomes known, and any resulting impairment
adjustments are made at that time. The current economic environment and recent
volatility of securities markets have increased the difficulty of determining
fair value and assessing investment impairment. The same influences tend to
increase the risk of potentially impaired assets.

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Accounting for equity-based compensation

Effective
January 1, 2006, we adopted FASB Statement No. 123(R), Share-Based Payment,
(SFAS 123(R)). FSFAS 123(R) supersedes Accounting Principles Board Opinion No.
25, Accounting for Stock Issued to Employees (APB No. 25) and related
interpretations, and amends FASB Statement No. 95, Statement of Cash Flows.
Generally, the approach in SFAS 123(R) is similar to the approach described in
SFAS 123. However, SFAS 123(R) requires all equity-based payments to employees,
including grants of employee stock options, to be recognized in the statement
of income based on their fair values. Pro-forma disclosure is no longer an
alternative. In 2007, we recognized equity-based compensation expense under
SFAS 123(R) in the amount of $1 million.

As
of December 31, 2007, we had $446,000 of unrecognized compensation expense
related to non-vested shares options and non-vested restricted shares awards.
For options granted before January 1, 2006, and which had graded vesting, we
recognized compensation expenses, based on the accelerated attribution method
over the requisite service period of each of the awards. Forfeitures were
accounted for as they occurred, but have been estimated with the adoption of
SFAS 123(R) for those awards not yet vested. SFAS 123(R) requires forfeitures
to be estimated at the time of grant and revised, if necessary, in subsequent
periods if actual forfeitures differ from those estimates. Estimated
forfeitures are based on actual historical pre-vesting forfeitures.

We
adopted SFAS 123(R) using the modified-prospective-transition method. Under
this transition method, compensation costs recognized in 2006 include (a)
compensation costs for all stock-based payments granted prior to, but that had
not yet vested as of, January 1, 2006, based on the grant date fair value
estimated in accordance with the pro-forma provisions of SFAS 123, adjusted for
the effect of estimating forfeitures, and (b) compensation costs for the
equity-based payments granted subsequent to January 1, 2006, based on the grant
date fair value estimated in accordance with SFAS 123(R). Our consolidated
financial statements for prior periods have not been restated to reflect, and
do not include, the impact of SFAS 123(R). We selected the Black-Scholes option
pricing model as the most appropriate fair value method for our stock-options
awards and value restricted stock based on the market value of the underlying
shares at the date of grant.

As
a result of adopting SFAS 123(R) on January 1, 2006, our income before income
taxes for 2006 was $519,000 lower than if we had continued to account for
equity-based compensation under APB No. 25. Basic and diluted earning per share
for 2006 is $0.04 lower than if we had continued to account for equity-based
compensation under APB No. 25.

Contingencies

We
periodically estimate the impact of various conditions, situations and/or
circumstances involving uncertain outcomes to our financial condition and
operating results. These events are called contingencies, and the accounting
treatment for such events is prescribed by the Statement of Financial
Accounting Standards No. 5, Accounting for Contingencies (SFAS No. 5). SFAS
No. 5 defines a contingency as an existing condition, situation, or set of
circumstances involving uncertainty as to possible gain or loss to an enterprise
that will ultimately be resolved when one or more future events occur or fail
to occur. Legal proceedings are a form of such contingencies.

In
accordance with SFAS 5, accruals for exposures or contingencies are being
provided when the expected outcome is probable. It is possible, however, that future
results of operations for any particular quarter or annual period could be
materially affected by changes in our assumptions, the actual outcome of such
proceedings or as a result of the effectiveness of our strategies related to
these proceedings.

Income taxes

Effective
January 1, 2007, we adopted the provisions of FASB Interpretation
No. 48, Accounting for Uncertainty in Income Taxes - an interpretation of
FASB Statement No. 109 (FIN 48). FIN 48 clarifies the accounting for
uncertainties in income taxes by establishing minimum standards for the
recognition and measurement of tax positions taken or expected to be taken in a
tax return. Under the requirements of FIN 48, we must review all of our tax
positions and make a determination as to whether its position is
more-likely-than-not to be sustained upon examination by regulatory
authorities. If a tax position meets the more-likelythan-not standard, then
the related tax benefit is measured based on a cumulative probability analysis
of the amount that is more-likely-than-not to be realized upon ultimate
settlement or disposition of the underlying issue. As of January 1, 2007
there was no material difference between the provisions of SFAS 109 and FIN 48
therefore no adjustment was recorded to the retained earnings.

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Prior
to 2007 we determined its tax contingencies in accordance with SFAS 5,
Accounting for Contingencies, or SFAS 5. We recorded estimated tax liabilities
to the extent the contingencies were probable and could be reasonably
estimated.

Recent Accounting Pronouncements

In
September 2006, the FASB issued SFAS No. 157, Fair Value Measurements, or
SFAS No. 157. This statement provides a single definition of fair value, a
framework for measuring fair value, and expanded disclosures concerning fair
value. Previously, different definitions of fair value were contained in
various accounting pronouncements creating inconsistencies in measurement and
disclosures. SFAS No. 157 applies under those previously issued pronouncements
that prescribe fair value as the relevant measure of value, except SFAS No.
123(R) and related interpretations. The statements does not apply to accounting
standard that require or permit measurement similar to fair value but are not
intended to measure fair value. This pronouncement is effective for fiscal
years beginning after November 15, 2007. On February 12, 2008, the FASB
issued FASB Staff Position No. FAS 157-2, Effective Date of FASB Statement No.
157, or FSP 157-2. FSP 157-2 amends SFAS No. 157 to delay the effective date
of SFAS No. 157 for nonfinancial assets and nonfinancial liabilities, except
for items that are recognized or disclosed at fair value in the financial
statements on a recurring basis (that is, at least annually). For items within
its scope, FSP 157-2 defers the effective date of SFAS No. 157 to fiscal years
beginning after November 15, 2008, and interim periods within those fiscal
years. We are currently
evaluating the impact of adopting SFAS No.157.

In
February 2007, the FASB issued SFAS No. 159, The Fair Value Option for
Financial Assets and Financial Liabilities, or SFAS No. 159. This statement
provides companies with an option to report selected financial assets and
liabilities at fair value. Generally accepted accounting principles have
required different measurement attributes for different assets and liabilities
that can create artificial volatility in earnings. The Standards objective is
to reduce both complexity in accounting for financial instruments and the
volatility in earnings caused by measuring related assets and liabilities
differently. This Statement is effective as of the beginning of an entitys
first fiscal year beginning after November 15, 2007. We do not expect
the adoption of SFAS 159 will have any material effect on our consolidated
financial statements. In
December 2007, the FASB issued SFAS No. 141R, Business
Combinations, or SFAS 141R. SFAS 141R established principles and
requirements for how the acquirer of a business recognizes and measures in our
financial statements the identifiable assets acquired, the liabilities assumed,
and any non-controlling interest in the acquiree. The statement also provides
guidance for recognizing and measuring the goodwill acquired in the business
combination and determines what information to disclose to enable users of the
financial statement to evaluate the nature and financial effects of the
business combination. SFAS 141R is effective for financial statements
issued for fiscal years beginning after December 15, 2008. Accordingly,
any business combinations the Company executes will be recorded and disclosed
following existing GAAP until January 1, 2009. We expect SFAS No. 141R
will have an impact on our consolidated financial statements when effective,
but the nature and magnitude of the specific effects will depend upon the
nature, terms and size of the acquisitions it consummates after the effective
date. We are still assessing the impact of this standard on our future
consolidated financial statements.

In
December 2007, the SEC staff issued Staff Accounting Bulletin No. 110, or SAB
110, which, effective January 1, 2008, amends and replaces SAB 107, Share-Based
Payment. SAB 110 expresses the views of the SEC staff regarding the use of a
simplified method in developing an estimate of expected term of plain
vanilla share options in accordance with SFAS No. 123(R). Under the
simplified method, the expected term is calculated as the midpoint between
the vesting date and the end of the contractual term of the option. The use of
the simplified method, which was first described in SAB 107, was scheduled to
expire on December 31, 2007. SAB 110 extends the use of the simplified method
for plain vanilla awards in certain situations. The SEC staff does not expect
the simplified method to be used when sufficient information regarding
exercise behavior, such as historical exercise data or exercise information
from external sources, becomes available. The Company is currently assessing
the potential impact that the adoption of SAB 110 could have on its financial
statements.

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Conditions in Israel

We
are incorporated under the laws of the State of Israel, and our principal
offices and substantially all research and development and manufacturing
facilities are located in Israel. Accordingly, we are directly affected by
political, economic and military conditions in Israel.

Political Conditions

Since
the establishment of the State of Israel in 1948, a number of armed conflicts
have taken place between Israel and its Arab neighbors and a state of
hostility, varying from time to time in intensity and degree, has led to
security and economic problems for Israel. Although Israel has entered into
various agreements with Egypt, Jordan and the Palestinian Authority, since
September 2000, there has been a high level of violence between Israel and the
Palestinians. Hamas, an Islamist movement responsible for many attacks,
including missile strikes, against Israelis, won the majority of the seats in
the Parliament of the Palestinian Authority in January 2006 and took control of
the entire Gaza Strip, by force, in June 2007. These developments have further
strained relations between Israel and the Palestinian Authority. Any armed
conflict, political instability or violence in the region may have a negative
effect on our business condition, harm our results of operations and could
adversely affect our share price. No predictions can be made as to whether or
when a final resolution of the areas problems will be achieved or the nature
thereof and to what extent the situation will impact Israels economic
development or our operations. Certain countries, companies and organizations
continue to participate in a boycott of Israeli firms. We do not believe that
the boycott has had a material adverse effect on us, but restrictive laws,
policies or practices directed towards Israel or Israeli businesses may have an
adverse impact on the expansion of our business.

Generally,
all male adult citizens and permanent residents of Israel under the age of 45
are obligated to perform military reserve duty of up to 36 days annually or
longer under certain circumstances. Additionally, all such residents are
subject to being called to active duty at any time under emergency
circumstances. Currently, a majority of our officers and employees are
obligated to perform annual reserve duty. While we have operated effectively
under these requirements since our inception, we cannot assess the full impact
of such requirements on our workforce or business if conditions should change,
and we cannot predict the effect of any expansion or reduction of such
obligations on us.

Economic Conditions

Israels
economy has been subject to numerous destabilizing factors, including a period
of rampant inflation in the early to mid-1980s, low foreign exchange reserves,
fluctuations in world commodity prices, military conflicts and civil unrest.
The Israeli government has, for these and other reasons, intervened in various
sectors of the economy, employing, among other means, fiscal and monetary
policies, import duties, foreign currency restrictions and controls of wages,
prices and foreign currency exchange rates. In 1998, the Israeli currency
control regulations were liberalized significantly, as a result of which
Israeli residents generally may freely deal in foreign currency and
non-residents of Israel generally may freely purchase and sell Israeli currency
and assets. There are currently no Israeli currency control restrictions on
remittances of dividends on the ordinary shares or the proceeds from the sale
of the shares; however, legislation remains in effect pursuant to which currency
controls can be imposed by administrative action at any time. Currently, the
global economy shows signs of growth slowdown which might also have an effect
on the Israeli economy. The Israeli economy has also been subject to
significant changes, as a result of implementation of new economic policies and
privatization.

Currency and
Inflation

A
substantial majority of our sales and expenses are incurred or determined in
U.S. dollars or are dollar-linked. The currency of the primary economic environment
in which we operate is, therefore, the dollar, which is our functional
reporting currency. Nevertheless, because certain of our expenses are incurred
in NIS and are affected by changes in the Israeli consumer price index, the
dollar cost of our operations is influenced by the extent to which any increase
in the rate of inflation in Israel is not offset, or is offset on a lagging
basis, by the devaluation of the NIS in relation to the dollar.

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As
of June 25, 2008, the inflation rate in Israel has increased at a rate of 0.1%
and the NIS had devaluated against the dollar by approximately 9.3%. The
inflation rate in Israel was approximately 2.4% in 2005, the deflation rate in
Israel was approximately 0.1% in 2006, and the inflation rate in Israel was
approximately 3.4% in 2007. At the same time the devaluation of the NIS against
the dollar was approximately 6.8% in 2005, the appreciation of the NIS against
the dollar was approximately 8.2% in 2006 and the appreciation of the NIS against
the dollar was approximately 9.0% in 2007. As a result of this differential, we
experienced a decrease in the dollar costs of operations in Israel in 2005, an
increase in 2006, and an increase in 2007, all of which did not materially
affect our results in such periods. The fluctuations in the dollar costs of our
operations in Israel related primarily to the costs of salaries in Israel,
which are paid in NIS and constitute a significant portion of our expenses. We
cannot assure you that we will not be materially adversely affected in the
future if inflation in Israel exceeds the devaluation of NIS against the dollar
or if the timing of such devaluation lags behind increases in inflation in
Israel.

Trade Agreements

Israel
is a member of the United Nations, the International Monetary Fund, the
International Bank for Reconstruction and Development and the International
Finance Corporation. Israel is also a signatory to the General Agreement on
Tariffs and Trade, which provides for reciprocal lowering of trade barriers
among its members. Israel has also been granted preferences under the
Generalized System of Preferences from Japan. These preferences allow Israel to
export the products covered by these programs either duty-free or at reduced
tariffs.

Israel
and the U.S. entered into a Free Trade Agreement (FTA) in 1985. Under the FTA,
most products receive immediate duty-free status. The FTA eliminated all tariff
and some non-tariff barriers on most trade between the two countries in 1995. Israel
became associated with the European Economic Community, now known as the
European Union, under a 1975 FTA, which confers some advantages with respect to
Israeli exports to most European countries and obligates Israel to lower its
tariffs with respect to imports from those countries over a number of years.
Israel is a member of the European Unions Sixth Research and Development
Program, giving Israelis access to research and development tenders in the
European Union countries. Since 1993, a FTA has been in effect between Israel
and the European Free Trade Association, or EFTA, whose members include
Switzerland, Norway, Iceland and Liechtenstein. The agreement grants the
exporting countries of EFTA trading with Israel conditions similar to those
Israel enjoys with the U.S.

In
recent years, Israel has established commercial and trade relations with a
number of other nations, including Russia, China, India and other nations in
Asia and Eastern Europe, with which Israel previously had not had these
relations.

5.B. Liquidity and Capital Resources.

We
have funded our operations primarily through private and public sales of our equity securities,
banks credit, research and development grants from, among others, the
Commission of the European Union and the OCS. As of December 31, 2007, we
had cash, cash equivalents, long term investments and other financial
investments net of $18.4 million. Our
operating activities used cash of $3.9 million, $3.7 and $2.6 million in 2007,
2006 and 2005 respectively. Cash used by operating activities in 2005 was
primarily the result of our net loss for the period, as adjusted for accrued interest on available-for-sale marketable securities, depreciation and amortization, partially
offset by gain from sale of patent rights and a significant increase in
inventories a significant decrease in deferred revenues, accrued expenses and
other liabilities. Cash used by operating activities in 2006 was primarily the
result of our net loss for the period, as adjusted for compensation related to
the grant of option and restricted shares, depreciation and amortization and
net changes of our working capital mainly decrease in trade payables partially
offset by the decrease in accrued expenses and other accounts payables. Cash used
by operating activities in 2007 was primarily the result of our net loss for
the period, as adjusted for compensation related to the grant of option and
restricted shares, depreciation and amortization, impairment of long term
investments and other assets acquired partially offset by the net changes of
our working capital mainly decrease in deferred revenues, accrued expenses and
other accounts payables and an increase in inventory partially offset by the
increase in trade payables.

-40-

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---

Net
cash provided from investing activities in 2007 and 2006 reflects primarily the
result of the redemption of available for sale marketable securities partially
offset by investing in companies and purchase of fixed assets. Net cash used in
investing activities in 2005 reflects primarily the purchase of financial
assets, fixed assets and investments in companies. In 2007 our investing
activity provided $14.9 million mainly as a result of proceeds from sale of
available-for-sale marketable securities totaled to $36.1 million, partially
offset by $20.3 million which was used for an investment in companies and
$945,000 which was used for a purchase of property and equipment. In 2006 our
investing activity provided $1.2 million mainly as a result of proceeds from
sale of available-for-sale marketable securities totaled to $2.1 million,
partially offset by $716,000 which was used for a purchase of property and
equipment and $175,000 which were used for an investment in a company. In 2005,
$17 million were used primarily for the purchase of financial assets, $833,000
were used for a purchase of property and equipment, $600,000 were used for an
investment in a company, partially offset by $15 million of proceeds from
redemption of matured available-for-sale marketable securities and proceeds
from sale of patent rights.

Net
cash used in financial activities in 2007 reflects primarily the decrease of
approximately $3 million in bank credit, partially offset by proceeds from
exercise of stock options in the amount of approximately $225,000. Net cash
provided by financing activities in 2006 reflects primarily the net proceeds
from the exercise of stock options approximately in the amount of $498,000 and
the increase in bank credit by approximately $2.4 million. Net cash provided by
financing activities in 2005 reflects primarily the net proceeds from the
exercise of stock options approximately in the amount of $437,000 and the
increase in bank credit. As of December 31, 2007, we have an authorized credit
line in the amount of $7.5 million (out of which $634,000 utilized). An amount
of approximately $6.9 million is secured against marketable securities. We have
an agreement with Clal Credit Insurance Ltd. for the provision of insurance
against default on outstanding receivable balances.

As
of December 31, 2007, our available cash including cash, cash equivalent,
short-term investments in marketable securities net was $18.4 million. As
of June 25, 2008, we have available cash, cash equivalents, long term
investments and other financial investments net of approximately $11.7 million.
The decrease is mainly
attributed to the additional purchase of Scopus shares partially off set by
the consideration received by us from a recent private placement to Mr. Wyler,
see Item
7.B. Related Party Agreements. We
manage our available cash on a discretionary basis, within the framework of an
investment policy based upon an established set of guidelines approved by our
board of directors. The main terms of the investment guidelines permit us to
invest in the following securities: (i) U.S. treasury and government agency
obligations (Government Securities); (ii) money market instruments of domestic
and foreign issues denominated in U.S. dollars of commercial paper, bankers
acceptances, certificates of deposit, euro-dollar time deposits and variable
rate issues (Money Market Instruments); (iii) up to 40% of the Companys
assets, excluding Government Securities, cash and Money Market Instruments, or
any combination of the following: (a) corporate notes and bonds rated
investment grade (BAA/BBB- and above) on the date of their purchase, provided
that investments in any one corporation or entity will not exceed $3 million;
(b) investments in bonds and notes with lower rating then BBB- and higher
rating of B, on their purchase date, provided that investments in any one
corporation or entity will not exceed $1 Million; (c) various financial
instruments including structure range note products issued by a rated
institution (A and above) in which the interest income may be subjected to
changes in interests rate; (d) hedge funds up to $5 million of total portfolio
pursuant to the following guidelines: (1) volatility below 10%; (2) minimum 5
years of positive performance; (3) low beta; (4) positive sharp ratio; (5) size
of fund of at least $1 billion; (e) entering into hedging transactions in order
to protect us against currency fluctuations between the US dollar and the NIS
as relates to up to $3 million operating expenses of the Company. The
investment policy prohibits us from engaging in any non-business related
investment activity that would be considered speculative according to the
principles of conservative investment management and limits the borrowing for
investment to no more than 25% of the investment principal. According to the
investment policy, the maximum maturity of individual securities in the
portfolio has no limitation and the weighted-average days to maturity of the
portfolio may not exceed 10 years. For securities that have put, reset or
expected average maturity dates, the put, reset or expected average maturity
will be used, instead of the final maturity dates, for maturity limit purposes.
The investment guidelines are to be reviewed periodically by our board of directors
with the President and the Chief Financial Officer. In addition, our President
and Chief Financial Officer and his/her authorized employees are responsible
for the managing investments subject to strict adherence to these guidelines.
As of the date hereof, we do not have any material contractual commitments
related to capital expenditure.

We
believe that, considering the use of cash in our ongoing operations, together
with the existing sources of liquidity described above, our current cash, cash
equivalents and marketable securities will be sufficient to meet our needs for
cash for at least the next 12 months. However, our liquidity and capital
requirements are affected by many factors, some of which are based on the
normal ongoing operations of our businesses and some of which arise from
uncertainties related to global economies and the markets that we target for
our services. In addition, we routinely review potential acquisitions. If we
grow more rapidly than currently anticipated, it is possible that we would
require more funds than anticipated. In that event, we would likely seek
additional equity or debt financing, although we cannot assure you that we
would be successful in obtaining such financing on favorable terms or at all.

-41-

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5.C. Research and Development

Research
and development expenses, net, consist primarily of labor expenses,
development-related raw materials and subcontractors services and related
overhead, offset by grants. Our net research and development expenses have
increased from $4 millions in 2005 to $4.2 million in 2006 and to $5.4 million
in 2007. As a percentage of revenues, our net research and development expenses
changed to approximately 23.3% in 2007 from approximately 23.4% in 2006 and
approximately 20.7% in 2005. Our level of research and development expenses
increased over the years. The increase in research and development expenses between 2006 and 2005 can primarily be attributed to the decrease
in our research and development grants received from the OCS and the European
Union and the increase in compensation expenses due to the
implementation of SFAS 123R, partially
offset by the reduction of other expenses mainly subcontractors costs. The
increase in research and development expenses between 2007 and 2006 can primarily be attributed to the increase
in salaries and related costs mainly as a result of an increase in our research
and development headcount. The increase can also be attributed to the increase
in other expenses mainly subcontractors costs. Research and development grants
totaled $1.8 million in 2007, $1.9 million in 2006 and $2.1 million in 2005.

For
grants received from certain entities, see Item 4.B. Business Overview -
Research and Development above.

5.D. Trend Information

The
digital video and streaming industry continues to be intensely competitive. We
will continue to focus on developing technologies and new products, and
research and development expenses might grow in the future years. We continue
to aggressively market our new products, while expanding markets for our
existing products. However, as discussed throughout this Annual Report, our
operations have been subject, and will continue to be subject, to pressure from
weakness in the overall technology sector as well as the digital video and
streaming industry. In order to strengthen our position and improve and expand our offering
variety to the market we continue to explore new investment alternatives both
of companies and of technologies.

Our
financial income affected by changes in the 6-month Libor rate, see Item 3.D.
Risk Factors under the heading Risks Relating to the Economy, Our Financial
Condition and Shareholdings above and Item 11 Quantitative and Qualitative
Disclosure about Market Risk - Investment Risk below. During 2007 we
have decreased significantly our level of investments in structure notes and
corporate bonds as of December 31, 2007 our investment in structured notes and corporate
bond totaled to $6.9 million and $1.6 million correspondingly. As of date all
of our corporate bonds and structure notes were redeemed or called back by the
issuer.

We
have been operating at a loss since the quarter ended December 31, 2000. We
were able to return to profitability in the quarter ended June 30, 2003 and
remain profitable until the quarter ended March 31, 2004. Since the second
quarter of 2004 we returned to operate in loss. If global economic conditions
worsen resulting in weakening the demand for our products, we may not be able
to return to profitability in 2008.

5.E. Off-Balance Sheet Arrangements

There are no off-balance sheet
arrangements that have or are reasonably likely to have a current or future
effect on our financial condition, changes in financial condition, revenues or
expenses, results of operations, liquidity, capital expenditures or capital
resources that is material to investors.

-42-

---

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5.F. Tabular Disclosure of Contractual Obligations

Set forth below are our contractual obligations and other commercial commitments as of December 31, 2007:

|                                   |  |                                             |       |                     |  |            |  |           |       |                 |  |   |  |  |       | 
|---------------------------------- |  | ------------------------------------------- | ----- | ------------------- |  | ---------- |  | --------- | ----- | --------------- |  | - |  |  | ----- | 
|                                   |  | Payments Due by Period
  (USD in thousands) |      
|Contractual Obligations            |  | Total                                       |       | Less than 1 
  year |  | 1- 3 years |  | 4-5 years |       | After 5
  years | 
|                                   |  |                                             |       |                     |  |            |  |           |       |                 |  |   |  |  |       | 
|Long-Term Debt                     |  |                                             |      |                     |  |           |  |           |      |                 |  |  |  |  |      | 
|Capital Lease Obligations          |  |                                             |      |                     |  |           |  |           |      |                 |  |  |  |  |      | 
|Operating Leases                   |  |                                             | 3,316 |                     |  | 1,283      |  |           | 2,033 |                 |  |  |  |  |      | 
|Purchase Obligations               |  |                                             |      |                     |  |           |  |           |      |                 |  |  |  |  |      | 
|Severance pay                      |  |                                             | 2,941 |                     |  |           |  |           |      |                 |  |  |  |  | 2,941 | 
|Other Long-Term Obligations        |  |                                             |      |                     |  |           |  |           |      |                 |  |  |  |  |      | 
|                                   |  |                                             |       |                     |  |            |  |           |       |                 |  |   |  |  |       | 
|Total Contractual Cash Obligations |  |                                             | 6,257 |                     |  | 1,283      |  |           | 2,033 |                 |  |  |  |  | 2,941 | 

|                               |  |                                                                 |       |                     |  |            |  |           |       |                  |  |   |  |  |   | 
|------------------------------ |  | --------------------------------------------------------------- | ----- | ------------------- |  | ---------- |  | --------- | ----- | ---------------- |  | - |  |  | - | 
|                               |  | Amount of Commitment Expiration Per Period
  (USD in thousands) |      
|Other Commercial Commitments   |  | Total                                                           |       | Less than 
  1 year |  | 1- 3 years |  | 4-5 years |       | After 5 
  years | 
|                               |  |                                                                 |       |                     |  |            |  |           |       |                  |  |   |  |  |   | 
|Lines of Credit                |  |                                                                 | 7,510 |                     |  |           |  |           | 7,510 |                  |  |  |  |  |  | 
|Standby Letters of Credit      |  |                                                                 |      |                     |  |           |  |           |      |                  |  |  |  |  |  | 
|Guarantees                     |  |                                                                 | 228   |                     |  |           |  |           | 228   |                  |  |  |  |  |  | 
|Standby Repurchase Obligations |  |                                                                 |      |                     |  |           |  |           |      |                  |  |  |  |  |  | 
|Other Commercial Commitments   |  |                                                                 |      |                     |  |           |  |           |      |                  |  |  |  |  |  | 
|                               |  |                                                                 |       |                     |  |            |  |           |       |                  |  |   |  |  |   | 
|Total Commercial Commitments   |  |                                                                 | 7,738 |                     |  |           |  |           | 7,738 |                  |  |  |  |  |  | 

Item
6. Directors, Senior Management and Employees

6,A. Directors and Senior Management

The
following table sets forth information with respect to the individuals who are
currently our directors and executive officers. All of these individuals are
presently serving in the respective capacities described below:

|                               |  |     |  |                                                                                       
|------------------------------ |  | --- |  | --------------------------------------------------------------------------------------
|Name                           |  | Age |  | Position                                                                              
|                               |  |     |  |                                                                                       
|Shlomo (Tom)
  Wyler(1)        |  | 55  |  | President,
  Chief Executive Officer and Executive Chairman of the Board of Directors.
|Amir Philips                   |  | 40  |  | Chief
  Financial Officer                                                             
|David
  Sackstein*             |  | 42  |  | Chief
  Technical Officer                                                             
|Yaron
  Comarov                |  | 43  |  | Vice
  President of Operations                                                        
|Orna Gil-Bar
  Shir**          |  | 43  |  | Vice
  President of Human Resources                                                   
|Yossi Aloni                    |  | 39  |  | President of
  Optibase Inc and Vice President of Marketing                           
|Udi Shani                      |  | 40  |  | Executive
  Vice President of International Sales                                     
|Eli Sharon                     |  | 35  |  | Vice
  President of Research and Development                                          
|Dana
  Tamir-Tavor(2)          |  | 59  |  | Director                                                                              
|Orli Garti
  Seroussi(1)(2)(3) |  | 48  |  | Director                                                                              
|Alex Hilman                    |  | 55  |  | Director                                                                              
|Itzik Wulkan(3)
  (2)          |  | 57  |  | Director                                                                              

|   |                                                                                                            
|-- | -----------------------------------------------------------------------------------------------------------
|*  | On April 27, 2008, Mr.
  Sackstein resigned from his position as our Chief Technical Officer.              
|** | On March 3, 2008, Ms.
  Gil-Bar Shir resigned from her position as our Vice President of Human
  Resources.

|    |                                       
|--- | --------------------------------------
|   
|(1) | Member of the investment
  committee  
|(2) | Member of the audit
  committee       
|(3) | Member of the compensation
  committee

-43-

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Shlomo
(Tom) Wyler serves as a President, Chief Executive
Officer and Executive Chairman of our Board of Directors. Since his investment
in us in September 2001 (then through Festin Management Corp.), Mr. Wyler has
served in various senior executive positions. Through the Festin Group, of
which he is a co-owner, Mr. Wyler has had substantial stakes in several public
companies in Switzerland. His other areas of involvement include investment
banking, foreign exchange and financial futures. In the early 1990s, Mr. Wyler
turned his efforts to real estate interests in the U.S. More recently, his
attention has been directed toward the high-tech industry in Israel. Mr. Wyler
holds a Masters degree in Business Economics from the University of Zurich.

Amir
Philipshas been serving as our Chief Financial
Officer Since May 2007. Prior to this position, Mr. Philips served as Vice
President Finance of Optibase Inc. from July 2004. From 2000 until 2004, Mr.
Philips held the position of Group Controller and Financial Manager at Optibase
Ltd. Before joining Optibase, Mr. Philips was an accountant and auditor at
Lotker Stein Toledano and Co., currently a member of BDO Ziv Haft. Mr. Philips
is a Certified Public Accountant in Israel. He holds a B.B. degree in
Accounting and Business Management from the Israeli College of Management.

David
Sackstein joined us in November 1994 and served as
Vice President of research & development and Chief Technological Officer
until his resignation on April 27, 2008. Since joining us, Mr. Sackstein has
held various technical and managerial positions in the research &
development departments. Prior to his
present position, Mr. Sackstein served as General Manager of the Video
Technologies product line  a position
he held from November 2003 until September 2005. Prior to joining us, Mr.
Sackstein led a research project at IBMs Research Center in Haifa. Mr.
Sackstein holds a B.Sc. in Electrical Engineering and a B.A. in Mathematics,
both from the Technion Israel Institute of Technology. Mr. Sackstein holds an
Executive MBA degree from Tel-Aviv University.

Yaron
Comarov joined us in 1994 and has been serving as our
Vice President of Operations since the year 2000. Prior to his present
position, Mr. Comarov served as our Director of Operations. Before joining us,
Mr. Comarov worked as an Operations and Project Manager at Israel Aircraft
Industries. Mr. Comarov holds a B.Sc. degree in information systems and
industrial engineering from the Technion Israel Institute of Technology and an
MBA degree from Boston University.

Orna
Gil-Bar Shir joined us in August 2000 and served as our
Vice President of Human Resources until her resignation on March 3, 2008. Prior
to joining us, Ms. Gil-Bar Shir served as Human Resource Manager for Computer
Associates Ltd. in Israel. During her tenure at Computer Associates, Ms.
Gil-Bar Shir was involved with the human resource implications resulting from
Computer Associates acquisition of Platinum Inc. and other acquisitions. From
1994 to 1996, Ms. Gil-Bar Shir served as an organizational consultant for the
Israeli Defense Forces. Ms. Gil-Bar Shir holds an MBA degree (organizational
behavior) from the Tel-Aviv University.

Yossi
Aloni serves as president of Optibase Inc. and as our
Vice President of Marketing. Mr. Aloni joined Optibase in May 2005 as Director
of Broadcast Solutions in January 2006 he was appointed as director of
Projects, in May 2006 he was appointed as Vice President of Marketing, and in
January 2008 he was appointed as president of Optibase Inc. Previously, from
1998 to 2005, Mr. Aloni served as Director of Engineering/Chief Engineer at
Telad, an Israeli channel originator. Prior to his appointment, he was Head of
Post-Production at Telad. During his career in the video arena over almost two
decades, Mr. Aloni also served as Technical Manager at Feltronics, and Golden
Channels, as well as Head of the Video Section in the Israel Defense Forces.
Mr. Aloni earned his B.Sc. in Computer Science from the Weizmann Institute of
Science.

Eli
Sharon Serves as vice president of Research and
Development. Mr. Sharon joined Optibase in 2007. Mr. Sharon is responsible for
the companys global research and development strategies. Prior to joining
Optibase, Mr. Sharon served as director of system engineering and program
manager at YES, the leading satellite television provider in Israel. Mr. Sharon
holds a Bachelor of Technology in Electronic Engineering and Communication from
Ariel University, Israel.

Udi
Shani serves as our Executive Vice President
International Sales and Technical Support. Mr. Shani joined Optibase in 1999 as
regional sales manager. In 2001, he was appointed as AVP of European Sales, in
2002 he relocated to North America where he founded and managed the Americas
IPTV sales force, and in 2005 Mr. Shani returned to Israel and was appointed
Executive Vice President International Sales. Prior to joining Optibase, Mr.
Shani served as sales and marketing manager at Eden Telecom (pointer) and as
sales manager at Muller Co. Mr. Shani holds a B.A. in Business Administration
from the Israeli College of Management and an MBA from Manchester University.

-44-

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Dana
Tamir-Tavor joined our board of directors in September
2000. Presently Ms. Tamir is serving as the Chief of Staff of the VAS Group in
Comverse after having served as the co-manager of the Indian offshore operation
for Comverse. From January 1997 to May 2000, Ms. Tamir served as the Chief
Executive Officer of Qronus, Inc., a company that was spun off by Mercury
Interactive. Prior to that Ms. Tamir managed and executed large-scale Command
Control & Communication real-time systems for the Israeli Defense Forces
and European armies.

Alex
Hilman joined our board of directors in February 2002.
Mr. Hilman is a partner in Hilman & Co., which provides auditing, tax and
business consulting services to corporations. Mr. Hilman serves on the boards
of various companies. Mr. Hilman was the president of the Israeli institute of
certified public accountants in Israel, served on the board of IFAC, and is a
member of the Small & Medium Practices committee in IFAC. Mr. Hilman
lectures on taxation in Tel-Aviv University, and has published professional
works on tax and accounting, among them, The Israel Tax Guide. Mr. Hilman
holds a B.A. degree in Accounting and Economics from Tel Aviv University.

Orli
Garti Seroussi joined our board of directors on
January 31, 2008 as an external director. Ms. Garti-Seroussi has served as the
General Manager of the Bureau of Municipal Corporation in the municipality of
Tel-Aviv Jaffa since August 2001. From June 1999 until July 2001 Ms.
Garti-Seroussi served as manager of consulting department in Shif-Hazenfrats
& Associations, CPA firm. Prior to that, Ms. Garti-Seroussi served as
Deputy Director of the Department of Market Regulation in the Israel Securities
Authority and as an Auditor in the Tel Aviv Stock Exchange. Ms. Garti-Seroussi
holds an M.P.A from Harvard University and M.B.A degree and a B.A degree in
economics and accounting from Tel Aviv University.

Itzik
Wulkanjoined our board of directors in December 17,
2007 as an external director. Mr. Wulkan is an independent entrepreneur and has
over 30 years of experience in various aspects of Hi-Tech industry at senior
positions in leading Israeli corporations (among others Vice-President of
Business Development Wireless at Audiocodes; Vice-President of Business
Development MMA group at Comverse; founder and head of R&D and project
department at Tadiran Switching). Mr. Wulkan holds an MBA degree from Tel Aviv
University and a B.Sc degree in electrical engineering from the Technion 
Israeli Technological Institute.

6.B. Compensation.

The aggregate remuneration we paid to
all persons as a group (15 persons) who served in the capacity of director or executive
officer in the year ended December 31, 2007, including compensation to directors and
officers whose employment was determined during 2007, was $1.74 million, including amounts
paid to provide pension, retirement or similar benefits pursuant to standard Israeli plans
but excluding amounts expended by us for automobiles made available to all of our
officers, expenses reimbursed to officers and other fringe benefits commonly reimbursed or
paid by companies in Israel. As of December 31, 2007, 12 persons served in the capacity as
directors or executive officers in our Company and beneficially owned as of such date,
options to purchase an aggregate of 112,102 ordinary shares which have not vested on June
25, 2008 or within 60 days thereafter. The exercise price of the options varies between
$1.95 and $6.638, the vesting period is spread out over a 4-year period and the expiration
date of such options is generally 7 years as of their date of grant, except for two of our
directors and executive officers which their options will be full vested after the second
anniversary as of the date of grant of their option.. In addition, as of June 25, 2008,
our directors and executive officers beneficially owned 6,175,275 shares (of which 907,492
shares are issuable upon exercise options that are currently vested or will vest within 60
days as of June 25, 2008).

Indemnification,
exemption and insurance of Directors and Officers

The
Israeli Companies Law permits a company to insure its directors and officers
provide them with indemnification, either in advance or retroactively, and
exempt its directors and officers from liability resulting from their breach of
their duty of care towards the company, all in accordance with the terms and
conditions specified under Israeli law. Our articles of association include
clauses allowing us to provide our directors and officers with insurance,
indemnification and to exempt them from liability subject to the terms and
conditions set forth by the Companies Law, as described below.

-45-

---

---

Subject
to statutory limitations, our articles of association provide that we may
insure the liability of our directors and offices to the fullest extent
permitted by the Companies Law. Without derogating from the aforesaid we may
enter into a contract to insure the liability of our directors and officer for
an obligation imposed on such director or officer in consequence of an act done
in his capacity as a director or officer of Optibase, in any of the following
cases:

|  |                                                                                                                                                                                   
|- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|v | a breach of
  the duty of care vis-a-vis us or vis-a-vis another person;                                                                                                          
|  |                                                                                                                                                                                   
|v | a breach of
  the fiduciary duty vis-a-vis us, provided that the director or officer acted
  in good faith and had a reasonable basis to believe that the act would not
  harm us;
|  |                                                                                                                                                                                   
|v | a monetary
  obligation imposed on him in favor of another person;                                                                                                                
|  |                                                                                                                                                                                   
|v | any other
  matter in respect of which it is permitted or will be permitted under
  applicable law to insure the liability of our director or officer.                            

Our
articles of association further provide that we may indemnify our directors and
officers, to the fullest extent permitted by the Companies Law. Without
derogating from the aforesaid, we may indemnify our directors and officers for
liability or expense imposed on them in consequence of an action made by them
in the capacity of their position as directors or officers of Optibase, as
follows:

|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|v | Any
  financial liability he incurs or imposed on him or her in favor of another
  person in accordance with a judgment, including a judgment given in a
  settlement or a judgment of an arbitrator, approved by a court.                                                                                                                                                                                                                                                                                                                                                                                                                                                
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|v | Reasonable
  litigation expenses, including legal fees, incurred by the director or
  officer or which he was ordered to pay by a court, within the framework of
  proceedings filed against him by or on behalf of Optibase, or by a third
  party, or in a criminal proceeding in which he was acquitted, or in a
  criminal proceeding in which he was convicted of a felony which does not
  require a finding of criminal intent.                                                                                                                                                                                                                                    
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|v | Reasonable
  litigation expenses, including legal fees he incurs due to an investigation
  or proceeding conducted against him by an authority authorized to conduct
  such an investigation or proceeding, and which was ended without filing an
  indictment against him and without being subject to a financial obligation as
  a substitute for a criminal proceeding, or that was ended without filing an
  indictment against him, but with the imposition of a financial obligation, as
  a substitute for a criminal proceeding relating to an offence which does not
  require criminal intent, within the meaning of the relevant terms in the
  Companies Law.
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|v | Any other
  obligation or expense in respect of which it is permitted or will be
  permitted under law to indemnify a director or officer of Optibase.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    

In
addition, our articles of association provide that we may give an advance
undertaking to indemnify a director and/or an officer in respect of all of the
matters above, provided that with respect to the first matter above, the
undertaking is restricted to events, which in the opinion of our board of
directors, are anticipated in light of our actual activity at the time of
granting the obligation to indemnify and is limited to a sum or measurement
determined by our board of directors as reasonable under the circumstances. We
may further indemnify an officer therein, save for the events subject to any
applicable law.

Our
articles of association further provide that we may exempt a director or officer
in advance and retroactively for all or any of his liability for damage in
consequence of a breach of the duty of care vis-a-vis Optibase, to the fullest
extent permitted by the Companies Law. Notwithstanding the foregoing, the
Companies Law prohibits a company to exempt any of its directors and officers
in advance from their liability towards such company for the breach of its duty
of care in distribution, as defined in the Companies Law, for such companys
shareholders (including distribution of dividend and purchase of such companys
shares by the company or an entity held by it).

The
above provisions with regard to insurance, exemption and indemnity are not and
shall not limit the Company in any way with regard to its entering into an insurance
contract and/or with regard to the grant of indemnity and/or exemption in
connection with a person who is not an officer of the Company, including
employees, contractors or consultants of the Company, all subject to any
applicable law.

All
of the above shall apply mutatis mutandis
in respect of the grant of insurance, exemption and/or indemnification for
persons serving on behalf of the Company as officers in companies controlled by
the Company, or in which the Company has an interest.

-46-

---

---

The
Companies Law provides that companies may not give insurance, indemnification
(including advance indemnification), or exempt their directors and/or officers
from their liability in the following events:

|  |                                                                                                                                                                                                                                                                                    
|- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|v | a breach of
  the fiduciary duty, except for a breach of the fiduciary duty vis-à-vis the
  company with respect to indemnification and insurance if the director or
  officer acted in good faith and had a reasonable basis to believe that the
  act would not harm the company;
|  |                                                                                                                                                                                                                                                                                    
|v | an intentional
  or reckless breach of the duty of care, except for if such breach was made in
  negligence;                                                                                                                                                                       
|  |                                                                                                                                                                                                                                                                                    
|v | an act done
  with the intention of unduly deriving a personal profit; or                                                                                                                                                                                                          
|  |                                                                                                                                                                                                                                                                                    
|v | a fine
  imposed on the directors or officers.                                                                                                                                                                                                                                     

We
have a directors and officers liability insurance policy. Our shareholders
approved indemnification of our directors and officers in connection with our
public offerings. We have
undertaken to indemnify our directors and officers to the fullest extent
permitted by the Companies Law and our articles of association and entered into
an indemnity letter with each of our directors and executive officers. The
aggregate indemnification amount shall not exceed the higher of: (i) 25% of our
shareholders equity, as set forth in our financial statements prior to such
payment; or (ii) $7.5 million.

Optibase,
Inc. has also undertaken to indemnify its directors and officers to the maximum
extent and in a manner permitted by the California Corporation Code and entered
into an indemnity letter with each of its directors and officers, subject to
similar limitations. The aggregate indemnification amount shall not exceed the
higher of: (i) 25% of the shareholders equity of Optibase, Inc., as set forth
in Optibase, Inc.s financial statements prior to such payment; or (ii) $7.5
million.

6.C. Board Practices

Pursuant
to our articles of association, our board of directors is required to consist
of three to nine members. Directors are elected at the annual general meeting
of our shareholders by a vote of the holders of a majority of the voting power
represented at such meeting. Each director holds office until the annual
general meeting of shareholders following the annual general meeting at which
the director was elected or until his earlier resignation or removal. A
director may be re-elected for subsequent terms. At present, our board of
directors consists of five members, including two external directors appointed
in accordance with the Israeli law requirements, as detailed herein. Our
articles of association provide that our directors may at any time and from
time to time, appoint any other person as a director, either to fill in a
vacancy or to increase the number of members of our board of directors.

Under
the Companies Law, each Israeli public company is required to determine the
minimum number of directors with accounting and financial expertise that such
company believes is appropriate in light of the particulars of such company and
its activities. A director with accounting and financial expertise is a
person that, due to education, experience and qualifications, is highly skilled
and has an understanding of business-accounting issues and financial statements
in a manner that enables him/her to understand in depth the companys financial
statements and stimulate discussion regarding the manner of presentation of the
financial data. Our board of directors resolved on March 30, 2006 that the
minimum number of directors with accounting and financial expertise appropriate
for us in light of the size of the board of directors and nature and volume of
the Companys operations is 1 director (such director may serve as an external
director, see below).

External Directors

Under
the Companies Law, Israeli public companies are required to appoint at least
two external directors to serve on their board of directors. Our shareholders
approved in December 2007 the appointment of Mr. Itzhak Wulkan and Ms. Orly
Garti-Seroussi as our external directors, for a 3-year term. In addition, each
committee of the board of directors entitled to exercise any powers of the
board is required to include at least one external director. The audit
committee must include all the external directors, See Committees of the Board
of Directors below.

-47-

---

---

Pursuant
to the Israeli Companies Law at least one external director is required to have
accounting and financial expertise and the other is required to have
professional qualification or accounting and financial expertise. A
director has professional qualification if he or she satisfies one of
the following:

| |       |                                                                                                                                                                                                                                                                                                                                                                                        
| | ----- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | (i)   | the director
  holds an academic degree in one of these areas: economics, business
  administration, accounting, law or public administration;                                                                                                                                                                                                                                         
| |       |                                                                                                                                                                                                                                                                                                                                                                                        
| | (ii)  | the director
  holds an academic degree or has other higher education, all in the main
  business sector of the company or in a relevant area for the board position;
  or                                                                                                                                                                                                             
| |       |                                                                                                                                                                                                                                                                                                                                                                                        
| | (iii) | the director
  has at least five years experience in one or more of the following or an
  aggregate five years experience in at least two or more of these: (a) senior
  management position in a corporation of significant business scope; (b)
  senior public office or senior position in the public sector; or (c) senior
  position in the main business sector of the company.

A
director with accounting and financial expertise is a person that due to his
or her education, experience and skills has high skills and understanding of
business-accounting issues and financial reports which allow him to deeply
understand the financial reports of the company and hold a discussion relating
to the presentation of financial information. The companys board of directors
will take into consideration in determining whether a director has accounting
and financial expertise, among other things, his or her education, experience
and knowledge in any of the following:

| |       |                                                                                                                                                                              
| | ----- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | (i)   | accounting
  issues and accounting control issues characteristic to the segment in which
  the company operates and to companies of the size and complexity of the
  company;
| |       |                                                                                                                                                                              
| | (ii)  | the
  functions of the external auditor and the obligations imposed on such
  auditor;                                                                                       
| |       |                                                                                                                                                                              
| | (iii) | preparation
  of financial reports and their approval in accordance with the companies law
  and the securities law.                                                         

An
external director may not be appointed to an additional term unless: (i) such
director has accounting and financial expertise; or (ii) he or she has
professional expertise, and on the date of appointment for another term there
is another external director who has accounting and financial expertise and
the number of accounting and financial experts on the board of directors is
at least equal to the minimum number determined appropriate by the board of
directors.

A
company whose shares are traded in certain exchanges outside of Israel,
including Nasdaq Global Market, such as our company, is not required to
nominate at least one external director who has accounting and financial
expertise so long as another independent director for audit committee purposes
who has such expertise serves on board of directors pursuant to the applicable
foreign securities laws. In such case, all external directors will have
professional qualification.

Under
Israeli law, a person may not serve as an external director if at the date of
the persons appointment or within the prior two years the person, or his or
her relatives, partners, employers or entities under the persons control, have
or had any affiliation with us or any entity controlling, controlled by or
under common control with us. Under the Companies Law, affiliation includes
an employment relationship, a business or professional relationship maintained
on a regular basis or control or service as an office holder, excluding service
as a director in anticipation of serving as an external director in a company
that is about to offer its shares to the public for the first time.

A
person may not serve as an external director if that persons position or other
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 any external
director is appointed, all members of the board are the same gender, then the
external director to be appointed must be of the other gender.

-48-

---

---

External
directors are elected by a majority vote at a shareholders meeting, as long as
either:

| |      |                                                                                                                                                                                                
| | ---- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | (i)  | the majority
  of shares voted for the election includes at least one-third of the shares of
  non-controlling shareholders voted at the meeting; or                                           
| |      |                                                                                                                                                                                                
| | (ii) | the total
  number of shares of non-controlling shareholders voted against the election
  of the external director does not exceed one percent of the aggregate voting
  rights of the company.

The
Companies Law provides for an initial three-year term for an external director
which may be extended, for an additional three-year term. In the case of a
company whose shares are traded in certain exchanges outside of Israel,
including Nasdaq Global Market, such as our company, regulations promulgated
under the Companies Law provide that the service of an external director can be
extended to additional three-year terms, if both the audit committee and the
board of directors confirm that in light of the expertise and contribution of
the external director, the extension of such external directors term would be
in theinterest of the company. Election of external directors requires a
special majority, as described above. External directors may be removed only by
the same special majority 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. In
the event the number of external directors is less than two external directors,
our board of directors is required under the Companies Law to call a
shareholders meeting to appoint a new external director.

External
directors may be compensated only in accordance with regulations adopted under
the Companies Law.

We
currently comply voluntarily with the NASDAQ Global Market rules requiring that
the board of directors of a listed company contain a majority of independent
directors.

Committees of the Board of Directors

Our
board of directors has established an audit committee, a compensation
committee, and an investment committee, as described below.

Audit Committee

The
Companies Law requires public companies to appoint an audit committee. The
responsibilities of the audit committee include identifying irregularities in
the management of the companys business and approval of related party
transactions as required by law. An audit committee must consist of at least
three members, and include all of the companys external directors. However,
the chairman of the board of directors, any director employed by the company or
providing services to the company on a regular basis, any controlling
shareholder and any relative of a controlling shareholder may not be a member
of the audit committee. An audit committee recommends approval of transactions
that are deemed interested party transactions, including directors
compensation and transactions between a company and its controlling shareholder
or transactions between a company and another person in which its controlling
shareholder has a personal interest. An audit committee may not approve an
action or a transaction with an officer or director, a transaction in which an
officer or director has a personal interest, a transaction with a controlling
shareholder and certain other transactions specified in the Companies Law,
unless at the time of approval two external directors are serving as members of
the audit committee and at least one of the external directors was present at
the meeting in which an approval was granted.

In
accordance with the Sarbanes-Oxley Act of 2002 and NASDAQ requirements, our
audit committee reviews our internal accounting procedures and consults with
and reviews the services provided by our independent auditors.

The
rules of NASDAQ currently applicable to foreign private issuers such as us
require us to establish an audit committee of at least three members, comprised
solely of independent directors. All of the members of the audit committee must
be able to read and understand basic financial statements, and at least one
member must have experience in finance or accounting, requisite professional
certification in accounting or comparable experience or background. The board
has determined that Ms. Orly Garti-Seroussi is an audit committee financial
expert as defined by applicable SEC regulation. The responsibilities of the
audit committee under the NASDAQ rules include the selection and evaluation of
the outside auditors and evaluation of their independence.

-49-

---

---

The
members of the audit committee are Mr. Itzhak Wulkan, Ms. Dana Tamir Tavor and
Ms. Orly Garti-Seroussi. These include our two external directors as required
under the Companies Law, and we believe that all of the members of the audit
committee are independent of management, and satisfies the requirements of
Companies Law, the SECs rules and NASDAQ rules.

Compensation
Committee

The
compensation committee, which is comprised of Ms. Orli Garti Seroussi and Mr.
Itzik Wulkan, reviews and recommends to the board of directors and in certain
cases, determines, the compensation and benefits of our employees and reviews
general policy relating to our compensation and benefits. The compensation
committee also administers our share option plans. Both of the members of the
compensation committee have been determined to be independent as defined by the
applicable NASDAQ rules.

Investment
Committee

Our
investment committee, which is comprised of Ms. Orli Garti Seroussi and Mr.
Shlomo (Tom) Wyler manages our investments in accordance with guidelines set by
our board of directors.

The
Israeli Companies Law requires the board of directors of a public company to
appoint an internal auditor pursuant to the audit committees proposal. The
internal auditor must satisfy certain independence requirements as required by
the law. The role of the internal auditor is to examine, among other things,
the compliance of the companys conduct with applicable law and orderly
business procedures. Our internal auditor is Doron Cohen, CPA (Isr.), CIA
(USA).

We
currently do not have a nomination committee, and the actions ordinarily taken
by such committee are resolved by the majority of our independent directors, in
accordance with the NASDAQ Global Market listing requirements.

Employment
Agreements

Each
of our executive officers entered into a written employment agreement with us
that provides, among other things, that such officers be paid a monthly salary
and bonuses. Each such agreement can be terminated either by us, or by the
employee, upon prior notice, which ranges between 60 to 120 days for most of the
management team. In the event of a change of control, termination of employment
may result for some of the management members in acceleration of the vesting of
options by an additional 12 to 24 months. The employment agreements also
provide that each executive officer will maintain confidentiality of matters
relating to us and will not compete with us during the period of the officers
employment and for a certain period thereafter.

6.D. Employees

As
of June 25, 2008, we had 140 employees, including employees in our subsidiary
and regional offices, of whom approximately 12 are part-time employees. The
following is a comparison of the breakdown of our employees by division and
location, for the years ended December 31, 2007, 2006 and 2005.

|                                                          |  |              |     |        |  |      |     |        |     |    |  |        |     |  |    |  |  |     |    
|--------------------------------------------------------- |  | ------------ | --- | ------ |  | ---- | --- | ------ | --- | -- |  | ------ | --- |  | -- |  |  | --- | ---
|                                                          |  | December 31, |    
|                                                          |  |              |    
|                                                          |  | 2005         |     | 2006   |  | 2007 |    
|                                                          |  |              |     |        |  |      |    
|Division                                                  |  | US           |     | Israel |  | US   |     | Israel |     | US |  | Israel |    
|                                                          |  |              |     |        |  |      |     |        |     |    |  |        |    
|                                                          |  |              |     |        |  |      |     |        |     |    |  |        |     |  |    |  |  |     |    
|Research & Development                                    |  |              |    |        |  | 44   |     |        |    |    |  | 44     |     |  |   |  |  | 48  |    
|Sales and Technical Marketing                             |  |              | 17  |        |  | 27   | (1) |        | 11  |    |  | 23     | (2) |  | 8  |  |  | 23  | (3)
|Marketing                                                 |  |              | 2   |        |  | 9    |     |        | 1   |    |  | 10     |     |  | 2  |  |  | 7   |    
|Operations                                                |  |              | 2   |        |  | 27   |     |        | 3   |    |  | 24     |     |  | 3  |  |  | 24  |    
|General and Administrative, Finance and
  Human Resources |  |              | 6   |        |  | 14   |     |        | 4   |    |  | 12     |     |  | 3  |  |  | 14  |    
|                                                          |  |              |     |        |  |      |     |        |     |    |  |        |    
|Total                                                     |  |              | 27  |        |  | 121  |     |        | 19  |    |  | 113    |     |  | 16 |  |  | 116 |    
|                                                          |  |              |     |        |  |      |     |        |     |    |  |        |    
|                                                          |  |              | 148 |        |  | 132  |     |        | 132 |   
|                                                          |  |              |     |        |  |      |     |        |     |    |  |        |    

|    |                                             
|--- | --------------------------------------------
|   
|(1) | This number includes 10
  employees in Asia.
|(2) | This number includes 9
  employees in Asia. 
|(3) | This number includes 8
  employees in Asia. 

-50-

---

---

The
number of employees as of December 31, 2007 remained the same as the number as
of December 31, 2006. There were some slight changes in the number of employees
by department as shown in the table above. The decrease in the number of
employees between December 31, 2005 and December 31, 2006 is mainly the result
of the departure of some of our sales and technical marketing employees mainly
at our U.S. based company.

Certain
provisions of Israeli law and of the collective bargaining agreements between
the Histadrut (General Federation of Labor in Israel) and the Coordination
Bureau of Economic Organizations (the Israeli federation of employers
organizations) apply to our Israeli employees directly or by an extension order
of the Israeli Ministry of Industry, Trade and Labor. These provisions
principally concern the maximum length of the workday and the workweek, minimum
wages, recuperation payments, travel expenses, determination of severance
payment and other conditions of employment. Furthermore, under these
provisions, the wages of most of our employees are automatically adjusted in
accordance with the cost of living adjustments, as determined on a nationwide
basis and pursuant to agreements with the Histadrut based on changes in the
Israeli consumer price index, which was extended by an extension order. The
amounts and frequency of such adjustments are modified from time to time.

Israeli
law generally requires the payment by Israeli employers of severance payment
upon the retirement or death of an employee or upon termination of employment
by the employer or, in certain circumstances, by the employee. We currently
fund our ongoing severance obligations by making monthly payments for insurance
policies. In addition, according to the Israeli National Insurance Law, Israeli
employees and employers are required to pay specified amounts to the National
Insurance Institute, which is similar to the United States Social Security
Administration. These contributions entitle the employees to benefits in
periods of unemployment, work injury, maternity leave, disability, reserve
military service and bankruptcy or winding-up of the employer. Since
January 1, 1995, such amounts also include payments for national health
insurance payable by employees. A majority of our full-time employees are
covered by general and/or individual life and pension insurance policies providing
customary benefits to employees, including retirement and severance benefits.

The
Israeli employment courts have restricted substantially non-competition
provisions in employment agreements.

6.E. Share Ownership

As
of June 25, 2008, our current directors and executive officers (12 persons)
beneficially owned an aggregate of 6,175,275 ordinary shares of our Company of
which 907,492 shares are issuable upon exercise of options that may be
exercisable within 60 days of June 25, 2008. Such number excludes
24,000 ordinary shares held by a trustee for the benefit of directors and
executive officers under the Companys incentive plan which have not vested as
of June 25, 2008 or 60 days thereafter and have no voting and equity rights.
Other than Shlomo (Tom) Wyler, all of our directors or executive officers hold
less than 1% of our shares. See Item 7.A. Major Shareholders for more
information regarding Mr. Wylers holdings.

Incentive
Plans

Since
1990, we have granted options to employees and directors to purchase ordinary
shares at exercise prices ranging from $1.95 to $6.638. As of June 25, 2008,
options and warrants to purchase 1,746,273 of our ordinary shares were
outstanding, with exercise prices ranging from $1.95 to $6.638 per share. As of
June 25, 2008, 1,600,065 of the options described above have vested or are
exercisable within 60 days of such date. The expiration date of the
aforementioned options is generally 7 years from the date of their grant. As of
December 31, 2007 the number of options outstanding and reserved for issuance
under our plans was 1,955,126 and 1,223,046, respectively. The following table
shows the number of options outstanding and reserved for issuance under each of
our incentive plans, as of June 25, 2008 or within 60 days thereafter.

|                                         |  |                                 |  |                                           |           | 
|---------------------------------------- |  | ------------------------------- |  | ----------------------------------------- | --------- | 
|Plan                                     |  | Number of options
  outstanding |  | Number of options
  reserved for issuance
|                                         |  |                                 |  |                                          
|                                         |  |                                 |  |                                           |           | 
|1999 Plans                               |  | 1,464,247                       |  |                                           | 1,262,191 | 
|2001 Non-statutory share option plan     |  | 282,026                         |  |                                           | 161,034   | 
|Total options                            |  | 1,746,273                       |  |                                           | 1,423,225 | 
|                                         |  |                                 |  |                                           |           | 
|Plan                                     |  | Number of shares
  outstanding  |  | Number of shares
  reserved for issuance 
|                                         |  |                                 |  |                                          
|                                         |  |                                 |  |                                           |           | 
|2006 Israeli Incentive Compensation Plan |  | 33,250                          |  |                                           | 153,950   | 
|Total shares                             |  | 33,250                          |  |                                           | 153,950   | 

-51-

---

---

The
following is a description of our incentive plans currently in effect.

1999 Plans

In
January 1999, our shareholders approved the adoption of an Israeli option plan,
or the 1999 Israeli Plan, and a U.S. option plan, or the 1999 U.S. Plan,
collectively the 1999 Plans both plans have a joint pool of underlying shares
to be granted thereunder. The 1999 Plans were amended from time to time to
include different tax tracks. The purpose of the 1999 Plans is to attract and
retain the best available personnel, to provide additional incentive to employees,
directors and consultants and to promote the success of our business. In
December 1999, our board of directors adopted a resolution to amend the 1999
Plans in a manner that as of April 1, 2000, the number of shares made
available for grant under the 1999 Plans will be automatically increased
annually, to equal 5% of our outstanding share capital at the relevant time. As
of June 25, 2008, an aggregate of 1,262,191 ordinary shares has been reserved
for issuance under this plan, and 1,464,274 were granted and are outstanding.
Unless specifically changed for a certain grantee, options vest monthly over a
period of four years, starting one year after the date of grant, subject to the
continued employment of the grantee. The exercise price of the options is
determined by our board of directors, subject to limitations. Generally,
options granted under each of the 1999 Plans will have a term of no more than
seven years from the date of grant. All options are subject to earlier
termination upon termination of the grantees employment or other relationship
with us, generally no less than three months from termination. We may make
certain exceptions, from time to time, in the vesting and expiration terms of
options granted to certain grantees.

2001
Non-statutory Share Option Plan

In
April 2001, our board of directors approved the adoption of the 2001
Non-statutory Share Option Plan, the purpose of which is to attract and retain
the best available personnel, to provide additional incentive to employees and
consultants and to promote the success of our business. The options to be
granted under the plan are limited to non-statutory options, thus there will be
no incentive stock options. In addition, we grant options only to employees
pursuant this plan, thus excluding officers and directors from the plan. As
such, we do not need shareholder approval of this plan under U.S. laws or
applicable NASDAQ rules. As of June 25, 2008 an aggregate of 161,034 ordinary
shares has been reserved for issuance under this plan, and 282,026 were granted
and are outstanding. The plan otherwise has terms similar to those contained
under the 1999 U.S. Plan.

2006 Israeli
Incentive Compensation Plan

In
May 2006, our board of directors approved the adoption of the 2006 Israeli
Incentive Compensation Plan, or the 2006 Plan, the purpose of which is to
secure the benefits arising from ownership of share capital by our employees,
officers and directors who are expected to contribute to the Companys future
growth and success. The 2006 Plan provides for the grant of options, restricted
shares and restricted share units in accordance with various Israeli tax
tracks. We currently use the 2006 Plan for the grant of restricted shares only.
The restricted shares are granted for no consideration and with a vesting
schedule of two years (50% each year). The restricted shares are granted in
accordance with the Israeli capital gains tax track. Termination of employment
of a grantee for any reason will result in the forfeiture of such grantees
unvested restricted shares. All restricted shares are subject to earlier
termination upon termination of the grantees employment or other relationship
with us, generally no less than 90 days from termination. We may make certain exceptions, from time
to time, in the vesting and expiration terms of the securities granted to
certain grantees. As of June 25, 2008 or within 60 days thereafter, an
aggregate of 153,950 ordinary shares has been reserved for issuance under the
2006 Plan, and 33,250 were granted and are outstanding.

-52-

---

---

NASDAQ
Marketplace Rules permit foreign private issuers to follow home country
practices in regard to certain requirements, including the requirement to
obtain shareholder approval in connection with the establishment of certain
incentive plans. In June and September 2006, we notified Nasdaq that we elected
to follow home practices with regard to the adoption of, and the amendment to,
the 2006 Plan. Accordingly, the adoption of, and the amendment to, the 2006 Plan
were not approved by our shareholders.

Item
7. Major Shareholders and Related Party Transactions

7.A. Major Shareholders

The
following table sets forth certain information known to the Company regarding
the beneficial ownership of our outstanding ordinary shares as of June 25, 2008
of (i) each person or group known by us to beneficially own 5% or more of the
outstanding ordinary shares and (ii) the beneficial ownership of all officers
and directors as a group, in each case as reported by such persons.

|                                                                        |  |                                                 |  |                                                    |       | 
|----------------------------------------------------------------------- |  | ----------------------------------------------- |  | -------------------------------------------------- | ----- | 
|Name of Beneficial Owner                                                |  | No. Of Ordinary Shares 
  Beneficially Owned(1) |  | Percentage of Ordinary
  Shares Beneficially Owned
|                                                                        |  |                                                 |  |                                                    |       | 
|Shlomo (Tom) Wyler(2)                                                   |  | 5,493,739                                       |  |                                                    | 32.72 | 
|Arthur Mayer  Sommer(3)                                                |  | 1,200,000                                       |  |                                                    | 7.27  | 
|MKM Longboat Capital Advisors LLP (4)                                   |  | 1,346,418                                       |  |                                                    | 8.15  | 
|Prescott Group Capital Management, L.L.C.(5)                            |  | 1,362,192                                       |  |                                                    | 8.25  | 
|Shareholding of all directors and officers
  as a group (12 persons)(6) |  | 6,175,275                                       |  |                                                    | 37.39 | 

|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|(1) | Number of
  shares and percentage ownership is based on 16,516,061 ordinary shares
  outstanding as of June 25, 2008. Such number excludes: (i) 364,970 ordinary
  shares held by us or for our benefit, and (ii) 33,250 ordinary shares granted
  under our 2006 Israeli Incentive Compensation Plan held by a trustee for the
  benefit of the grantees thereunder, both have no voting or equity rights as
  of the date hereof or within 60 days thereafter. Beneficial ownership is
  determined in accordance with rules of the SEC and includes voting and
  investment power with respect to such shares. Shares subject to options that
  are currently exercisable or exercisable within 60 days of June 25, 2008 are
  deemed to be outstanding and to be beneficially owned by the person holding
  such options for the purpose of computing the percentage ownership of such
  person, but are not deemed to be outstanding and to be beneficially owned for
  the purpose of computing the percentage ownership of any other person. All
  information with respect to the beneficial ownership of any principal shareholder
  has been furnished by such shareholder and, unless otherwise indicated below,
  we believe that persons named in the table have sole voting and sole
  investment power with respect to all the shares shown as beneficially owned,
  subject to community property laws, where applicable. The shares beneficially
  owned by the directors include the ordinary shares owned by their family
  members to which such directors disclaim beneficial ownership.
|(2) | Mr. Shlomo
  (Tom) Wyler currently serves as a President, Chief Executive Officer and
  Executive Chairman of our Board of Directors. The information is based on
  Schedule 13D filed by Mr. Wyler on June 25, 2008. Includes 5,218,739 ordinary
  shares, 200,000 ordinary shares issuable upon exercise of options currently
  exercisable with an exercise price of $2.38 per option and expiration date of
  December 2009 and 75,000 ordinary shares issuable upon exercise of option
  exercisable within 60 days of June 25, 2008 with an exercise price of $6 per
  option and expiration date of December 2011, 4,000 ordinary shares held by a
  trustee for the benefit of Mr. Shlomo (Tom) Wyler under our Israeli Incentive
  Compensation Plan, which have not vested as of June 25, 2008 or within 60
  days thereafter and do not acquire any voting or equity rights.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      

-53-

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|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|--- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(3) | To our
  knowledge, the information is accurate as of June 25, 2008 and is based on
  the website of NASDAQ online whose address is www.nasdaq.net.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|(4) | The
  information is accurate as of December 31, 2007 and based on Schedule 13G
  filed with the SEC by MKM Longboat Capital Advisors LLP, or MKM Advisors, and
  MKM Longboat Multi-Strategy Master Fund Ltd., or MKM Master Fund, on February
  11, 2008. MKM Advisors may be deemed to be the beneficial owner of these
  securities by virtue of its role as the investment manager of the investment
  funds which own such securities. MKM Advisors and MKM Master Fund share
  voting power and investment power, and thus beneficial ownership, with
  respect to these shares. MKM Advisors and MKM Master Fund disclaim such
  beneficial ownership except to the extent of their pecuniary interests
  therein.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|(5) | The
  information is accurate as of July 18, 2007 and based on Schedule 13G filed
  with the SEC by, among others, Prescott Group Capital Management, L.L.C.
  (Prescott Capital) on February 14, 2008. The number of shares consists of
  1,362,192 ordinary shares of the Company purchased by Prescott Group
  Aggressive Small Cap, L.P., an Oklahoma limited partnership (Prescott Small
  Cap), Prescott Group Aggressive Small Cap II, L.P., an Oklahoma limited
  partnership (Prescott Small Cap II and together with Prescott Small Cap,
  the Small Cap Funds) through the account of Prescott Group Aggressive Small
  Cap Master Fund, G.P., an Oklahoma general partnership (Prescott Master Fund),
  of which the Small Cap Funds are general partners. Prescott Capital serves as
  the general partner of the Small Cap Funds and may direct the Small Cap
  Funds, the general partners of Prescott Master Fund, to direct the vote and
  disposition of the 1,362,192 ordinary shares of the Company held by the
  Prescott Master Fund. As the principal of Prescott Capital, Mr. Frohlich
  may direct the vote and disposition of the 1,362,192 ordinary shares of the
  Company held by Prescott Master Fund.
|(6) | Includes 6,175,275
  ordinary shares and 907,492 ordinary shares issuable upon exercise of options
  exercisable within 60 days of June 25, 2008. Excludes 24,000 ordinary shares
  held by a trustee for the benefit of our directors and executive officers
  under our Israeli Incentive Compensation Plan, which have not vested on June
  25, 2008 or within 60 days thereafter and do not acquire any voting or equity
  rights.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        

Significant changes in the ownership of our
shares.

The
following table specifies significant changes in the ownership of our shares by
Festin Management Corp., Shlomo (Tom) Wyler and Arthur Mayer-Sommer. This
information is based on Schedules 13D initially filed by Festin Management
Corp. (whose holdings were transferred to Shlomo (Tom) Wyler and Arthur
Mayer-Sommer on September 10, 2004) beginning on January 1, 2003, regarding
ownership of our shares, and on Schedules 13D subsequently filed separately by
Shlomo (Tom) Wyler and Arthur Mayer-Sommer:

|                         |  |                     |  |                                 | 
|------------------------ |  | ------------------- |  | ------------------------------- | 
|Beneficial Owner        |  | Date of filing      |  | No. Of Shares Beneficially Held
|                         |  |                     |  |                                 | 
|Festin
  Management Corp |  | November 25,
  2003 |  | 3,000,000                       | 
|Shlomo (Tom)
  Wyler     |  | June 9, 2005        |  | 1,800,000                       | 
|Shlomo (Tom)
  Wyler     |  | May 27, 2006        |  | 2,401,838                       | 
|Shlomo (Tom)
  Wyler     |  | June 25,
  2008     |  | 5,218,739                       | 
|Arthur
  Mayer-Sommer    |  | June 9, 2005        |  | 1,200,000                       | 

The
following table specifies significant changes in the ownership of our shares
held by Avraham and Moshe Namdar. This information is based on Schedules 13D
filed by Avraham and Moshe Namdar beginning on January 1, 2003, regarding
ownership of our shares:

|                                               |  |                     |  |                                 | 
|---------------------------------------------- |  | ------------------- |  | ------------------------------- | 
|Beneficial Owner  
  Avraham and Moshe Namdar |  | Date of filing      |  | No. Of Shares Beneficially Held
|                                               |  |                     |  |                                 | 
|                                               |  | February 27,
  2003 |  | 2,159,300                       | 
|                                               |  | October 10,
  2003  |  | 1,668,436                       | 
|                                               |  | December 10,
  2003 |  | 1,401,136                       | 
|                                               |  | January 6,
  2004   |  | 1,151,136                       | 
|                                               |  | January 18,
  2005  |  | 1,101,136                       | 
|                                               |  | February 11,
  2004 |  | 974,076                         | 
|                                               |  | May 27, 2006        |  | 372,238                         | 

-54-

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---

The
following table specifies significant changes in the ownership of our shares by
Bricoleur Capital Management LLC. This information is based on Schedule 13G
filed by Bricoleur Capital Management LLC beginning on February 11, 2005,
regarding ownership of our shares:

|                                                      |  |                     |  |                                 |  
|----------------------------------------------------- |  | ------------------- |  | ------------------------------- | -
|Beneficial Owner  
  Bricoleur CapitalManagement LLC |  | Date of filing      |  | No. Of Shares Beneficially Held
|                                                      |  |                     |  |                                 |  
|                                                      |  | February 11,
  2005 |  | 705,641                         |  
|                                                      |  | February 13,
  2006 |  | 55,029                          |  
|                                                      |  | June 25,
  2008     |  | 212,071                         | *

| |                                                                                                                                                                  
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------
| | * To the
  best of our knowledge, the information is provided as of June 25, 2008 and is based on the website of
  NASDAQ online whose address is www.nasdaq.net.

The
following table specifies significant changes in the ownership of our shares by
Kern Capital Management LLC. This information is based on Schedules 13G filed
by Kern Capital Management LLC beginning on October 11, 2005, regarding
ownership of our shares:

|                                              |  |                     |  |                                 | 
|--------------------------------------------- |  | ------------------- |  | ------------------------------- | 
|Beneficial Owner  Kern CapitalManagement LLC |  | Date of filing      |  | No. Of Shares Beneficially Held
|                                              |  |                     |  |                                 | 
|                                              |  | October 11,
  2005  |  | 1,327,800                       | 
|                                              |  | February 14,
  2006 |  | 1,623,300                       | 
|                                              |  | February 14,
  2007 |  | 1,964,400                       | 
|                                              |  | June 11,
  2007     |  | 1,040,300                       | 
|                                              |  | February 14,
  2008 |  |                                | 

The
following table specifies significant changes in the ownership of our shares by
MKM Longboat Capital Advisors LLP. This information is based on Schedule 13G
filed by MKM Longboat Capital Advisors LLP beginning on June 27, 2008, regarding
ownership of our shares:

|                                                      |  |                     |  |                                 | 
|----------------------------------------------------- |  | ------------------- |  | ------------------------------- | 
|Beneficial Owner 
  MKM Longboat CapitalAdvisors LLP |  | Date of filing      |  | No. Of Shares Beneficially Held
|                                                      |  |                     |  |                                 | 
|                                                      |  | June 27,
  2007     |  | 715,300                         | 
|                                                      |  | February 11,
  2008 |  | 1,346,418                       | 

The
following table specifies significant changes in the ownership of our shares by
Prescott Group Capital Management, L.L.C. This information is based on Schedule
13G filed by Prescott Group Capital Management, L.L.C. beginning on
February 14, 2008, regarding ownership of our shares:

|                                                               |  |                     |  |                                 | 
|-------------------------------------------------------------- |  | ------------------- |  | ------------------------------- | 
|Beneficial Owner  
  Prescott Group CapitalManagement, L.L.C. |  | Date of filing      |  | No. Of Shares Beneficially Held
|                                                               |  |                     |  |                                 | 
|                                                               |  | February 14,
  2008 |  | 1,362,192                       | 

-55-

---

---

All
of our shares have the same voting rights.

On
June 25, 2008, there were approximately 68 shareholders of record of our ordinary shares.
As of such date, 49 record holders in the United States hold approximately 72.05% of our
ordinary shares. To the best of our knowledge, except as described above, we are not owned
or controlled directly or indirectly by any government or by any other corporation. We are
not aware of any arrangement, the operation of which may at a subsequent date result in a
change in control of the company.

7.B. Related Party Transactions

For a
description of the insurance, indemnification and exemption granted to our
directors and officers, see Item 6.B. Compensation above.

For
a description of the grant of options to our directors and officers, see Item
6.E. Share Ownership, above. In addition, each member of our board of
directors is paid an annual fee of $18,000 for his/her service as a director.

On
November 8, 2006 our shareholders approved the reimbursement of expenses to
Shlomo (Tom) Wyler, our President, Chief Executive Officer and Executive
Chairman of our Board of Directors, who is also considered our controlling
shareholder in an approximate aggregate amount of $37,000 for expenses in 2005,
and an amount not to exceed $50,000 for each year beginning in 2006, all on
account of performing his duties towards us.

On
December 20, 2007, our shareholders approved an employment agreement between
Optibase and Mr. Shlomo (Tom) Wyler with respect to Mr. Wylers service as
Chief Executive Officer of the Company. Under the agreement, Mr. Wyler will
continue to serve as Chief Executive Officer of the Company in consideration
for a gross monthly payment of NIS 40,000. In addition, Mr. Wyler will be
entitled to managers insurance, educational fund (keren hishtalmut), 24 days
annual vacation, sick leave and 10 days replenishment fees (dmey havraa). The
Company has also undertaken to provide Mr. Wyler with a telephone, facsimile,
mobile phone, internet connection, laptop and printer and bear all installation
costs and all expenses related thereto. The agreement further provides that Mr.
Wyler shall be entitled to a one-time bonus in the amount of $10,000 upon the
execution of the employment agreement. In addition, our board of directors, at
its sole discretion, may grant Mr. Wyler an annual bonus for each year
commencing in 2008 (for the year 2007) which shall not exceed twice Mr. Wylers
monthly salary. The agreement is for a three-year term commencing retroactively
on October 1, 2007. Any party to the agreement may terminate it by providing
the other party with a 4-month advance written notice. At the Companys
discretion, Mr. Wyler shall be obligated to continue working during the first
two months of such 4-month advance notice period. During the next two months
Mr. Wyler shall be free to practice any other business without the receipt of
the Companys approval. The Company may elect to pay Mr. Wyler a one time
payment for such advance notice period. Notwithstanding the above, the Company
may terminate the agreement and Mr. Wylers employment immediately for Cause,
as such term is defined in the agreement. See also the discussion regarding our
relationships with Mobixell and V.Box under Item 4.A. History and Development
of the Company above.

In
June, 2008, we issued, in a private placement, 2,816,901 of our ordinary shares to Mr. Shlomo (Tom) Wyler, the President, Chief
Executive
Officer and Executive Chairman of the Board of Directors, who is also
considered as our controlling shareholder,
in consideration for $5 million in cash. We undertook to make our best efforts
to register for resale the shares under the Securities Act within six months of
the issuance date.

We
lend unsubstantial amounts, from time to time, to our employees, who are not
officers, which payments are not deemed benefits by Israeli tax authorities.

7.C. Interests of Experts and Counsel

Not
applicable.

-56-

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---

Item
8. Financial Information

8.A. Consolidated Statements and Other
Financial Information

See
Item 18 for a list of financial statements filed as part of this annual report.

Legal proceedings

In
September 2005, we were served with a lawsuit filed by Vsoft Ltd., or Vsoft, a
company that is undergoing liquidation proceedings and which claimed that
during 2002 we negotiated with Vsoft in bad faith regarding a potential purchase
of its share capital, which led to Vsofts entering into bankruptcy
proceedings. Vsoft demanded damages in the amount of $2,129,000 as well as the
payment of reimbursement of expenses, legal fees and applicable VAT. On January
1, 2006, we filed a motion to dismiss the lawsuit based on our claim that
Vsofts receiver did not approve the lawsuit as determined by the liquidation
court. To date, no decision has been granted. We believe, based on the facts
known to us as of this annual report, that the claim for damages is without
merit.

There
are several legal proceedings initiated against us in the ordinary course of
business, and we do not believe that the outcome of these proceedings, if
adverse to us, individually or in the aggregate, will have a significant effect
on our financial position or profitability.

Dividend Policy

We
have not declared or paid any cash dividends on our ordinary shares in the
past. We do not expect to pay cash dividends on our ordinary shares in the
foreseeable future and intend to retain our future earnings, if any, to finance
the development of our business.

A
dividend policy, if adopted, will be determined by our board of directors and
will depend, among other factors, upon our earnings, financial condition,
capital requirements, the impact of the distribution of dividends on our
financial condition and tax liabilities, and such other conditions as our board
of directors may deem relevant. Under Israeli law, an Israeli company may pay
dividends only out of its retained earnings as determined for statutory
purposes. Under our articles of association the distribution of dividends will
be made by a resolution of the Companys board of directors. See Description
of Share Capital and Israeli Taxation and Investment Programs.

Cash
dividends paid by an Israeli company are normally subject to a withholding tax,
except for dividends paid to an Israeli company in which case no tax is
withheld unless the dividend is in respect of earnings from an Approved
Enterprise. In addition, because we have received certain benefits under
Israeli laws relating to Approved Enterprises, the payment of dividends by us
may be subject to certain Israeli taxes to which we would not otherwise be
subject. The tax-exempt income attributable to the Approved Enterprise can be
distributed to shareholders without subjecting us to taxes only upon our
complete liquidation. If we decide to distribute cash dividends out of income
that has been exempted from tax, the income out of which the dividend is
distributed will be subject to corporate tax at a rate between 10% and 25%. See
Israeli Taxation and Investment Programs. In the event that cash dividends
are declared in the future, such dividends will be paid in NIS or in foreign
currency subject to any statutory limitations. Under current Israeli
regulations, any dividends or other distributions paid in respect of ordinary
shares will be freely repatriable in such non-Israeli currencies at the rate of
exchange prevailing at the time of conversion, provided that Israeli income tax
has been paid on, or withheld from, such payments. Because exchange rates
between the NIS and the dollar fluctuate continuously, a U.S. shareholder will
bear the risks of currency fluctuations during the period between the date such
dividend is declared and paid by us in NIS and the date conversion is made by
such shareholder into U.S. dollars.

Item 8.B. Significant Changes

In
December 2007, we entered into agreements with certain shareholders of Scopus,
to purchase an aggregate of 1,380,000 ordinary shares of Scopus, representing,
at that time, approximately 10% of Scopus outstanding shares, for an aggregate
consideration of approximately $8.6 million. Following the completion of the
condition to the closing, the transaction was executed in January 2008.
Following the completion of such purchase, we beneficially owned approximately 37% of
Scopus issued shares.

-57-

---

---

Item
9. The Offer and Listing

9.A. Offer and Listing Details

Our
ordinary shares are traded on the NASDAQ Global Market under the symbol OBAS
since our initial public offering on April 7, 1999. The following table
sets forth, for the periods indicated, the high and low closing sale prices per
share of our ordinary shares as reported by the NASDAQ Global Market.

|                       |  |  |                             |  |        |      |       |   |      |  |     |      |  |   |      | 
|---------------------- |  |  | --------------------------- |  | ------ | ---- | ----- | - | ---- |  | --- | ---- |  | - | ---- | 
|                       |  |  |                             |  | Nasdaq |      | TASE* |  
|                       |  |  |                             |  | High   |      | Low   |   | High |  | Low |     
|                       |  |  |                             |  |        |      |       |   |      |  |     |      |  |   |      | 
|2003                   |  |  |                             |  | $      | 8.83 |       | $ | 1.77 |  |     |      |  |   |      | 
|2004                   |  |  |                             |  | $      | 8.32 |       | $ | 3.8  |  |     |      |  |   |      | 
|2005                   |  |  |                             |  | $      | 6.69 |       | $ | 4.49 |  |     |      |  |   |      | 
|2006                   |  |  |                             |  | $      | 5.01 |       | $ | 2.62 |  |     |      |  |   |      | 
|2007                   |  |  |                             |  | $      | 4.52 |       | $ | 2.52 |  |     |      |  |   |      | 
|                       |  |  |                             |  |        |      |       |   |      |  |     |      |  |   |      | 
|2006                   |  |  |                             |  |        |      |       |   |      |  |     |      |  |   |      | 
|                       |  |  | First
  Quarter             |  | $      | 5.01 |       | $ | 3.27 |  |     |      |  |   |      | 
|                       |  |  | Second
  Quarter            |  | $      | 4.02 |       | $ | 3.2  |  |     |      |  |   |      | 
|                       |  |  | Third
  Quarter             |  | $      | 3.49 |       | $ | 2.62 |  |     |      |  |   |      | 
|                       |  |  | Fourth
  Quarter            |  | $      | 4.1  |       | $ | 2.65 |  |     |      |  |   |      | 
|                       |  |  |                             |  |        |      |       |   |      |  |     |      |  |   |      | 
|2007                   |  |  |                             |  |        |      |       |   |      |  |     |      |  |   |      | 
|                       |  |  | First
  Quarter             |  | $      | 4.32 |       | $ | 3.44 |  |     |      |  |   |      | 
|                       |  |  | Second
  Quarter            |  | $      | 4.52 |       | $ | 3.64 |  |     |      |  |   |      | 
|                       |  |  | Third
  Quarter             |  | $      | 4.44 |       | $ | 3.41 |  | $   | 4.10 |  | $ | 3.83 | 
|                       |  |  | Fourth
  Quarter            |  | $      | 3.9  |       | $ | 2.52 |  | $   | 4.12 |  | $ | 2.63 | 
|                       |  |  |                             |  |        |      |       |   |      |  |     |      |  |   |      | 
|2008                   |  |  | First
  Quarter             |  | $      | 2.73 |       | $ | 1.61 |  | $   | 2.63 |  | $ | 1.96 | 
|                       |  |  |                             |  |        |      |       |   |      |  |     |      |  |   |      | 
|Most Recent Six Months |  |  |                             |  |        |      |       |   |      |  |     |      | 
|                       |  |  | December
  2007             |  | $      | 3.13 |       | $ | 2.52 |  | $   | 3.24 |  | $ | 2.63 | 
|                       |  |  | January 2008                |  | $      | 2.73 |       | $ | 1.99 |  | $   | 2.63 |  | $ | 2.08 | 
|                       |  |  | February
  2008             |  | $      | 2.08 |       | $ | 1.97 |  | $   | 2.12 |  | $ | 1.98 | 
|                       |  |  | March 2008                  |  | $      | 2.07 |       | $ | 1.61 |  | $   | 2.24 |  | $ | 1.96 | 
|                       |  |  | April 2008                  |  | $      | 2.05 |       | $ | 1.86 |  | $   | 2.20 |  | $ | 2.08 | 
|                       |  |  | May 2008                    |  | $      | 2.20 |       | $ | 1.76 |  | $   | 2.25 |  | $ | 1.95 | 
|                       |  |  | June 2008
  through June 25 |  | $      | 1.82 |       | $ | 1.59 |  | $   | 2.04 |  | $ | 1.53 | 

*
We listed our ordinary shares for trade on the Tel Aviv Stock Exchange, or the
TASE, on August 6, 2007. Therefore, the table contains listing details of our
shares listed on the TASE, starting on the third quarter of 2007. The closing
prices of our ordinary shares listed on the TASE for each of the periods
referred to in the tables above have been translated into dollars using the
representative rate of exchange of the NIS to the U.S. dollar as published by
the Bank of Israel on the same dates.

On
June 24, 2008 and on June 25, 2008, the reported closing sale price of our
ordinary shares on the NASDAQ Global Market and on the TASE, respectively, was
$1.59 per share on the Nasdaq and NIS 1.55 per share on the TASE ($3.373 per
share calculated based on an exchange rate of NIS per United States dollar as
of June 24, 2008).

Item
10. Additional Information

10.A. Share Capital

Not
applicable.

-58-

---

---

10.B. Memorandum and Articles of Association

Purposes
and Objects of the Company

We
are a public company registered under the Companies Law as Optibase Ltd.,
registration number 52-0037078.

Pursuant
to our articles of association, our objectives are to engage in any lawful
business and our purpose is to act pursuant to business considerations to make
profits.

Our
articles of association also state that we may contribute a reasonable amount
for an appropriate cause, even if the contribution is not within the framework
of our business considerations.

The Powers
of the Directors

The
power of our directors to vote on a proposal, arrangement or contract in which
the director is interested is limited by the relevant provisions of the
Companies Law. In addition, the power of our directors to vote on compensation
to themselves or any members of their body is limited in that such decision
requires the approval of the audit committee, the board of directors and the
shareholders at a general meeting, see Approval of Certain Transaction below.

The
powers of our directors to borrow are not limited, except in the same manner as
any other transaction by the company.

Rights
Attached to Shares

Our
registered share capital is NIS 3,900,000 divided into a single class of
30,000,000 ordinary shares, par value NIS 0.13 per share, of which 16,914,281 ordinary shares were outstanding as of
June 25, 2008. All outstanding ordinary shares are validly issued, fully paid
and non-assessable. The rights attached to the Ordinary Shares are as follows:

Dividend rights

Holders
of Ordinary Shares are entitled to the full amount of any cash or share
dividend subsequently declared. The Board of Directors may propose a dividend
only out of profits, in accordance with the provisions of the Companies Law.
Declaration of a dividend requires the approval of our board of directors.
Please see Item 10.E. Taxation below.

One
year after a dividend has been declared and is still unclaimed, the board of
directors is entitled to invest or utilize the unclaimed amount of dividend in
any manner to our benefit until it is claimed. We are not obligated to pay
interest or linkage differentials on an unclaimed dividend.

Voting rights

Holders
of ordinary shares have one vote for each ordinary share held on all matters
submitted to a vote of shareholders. Such voting rights may be affected by the
grant of any special voting rights to the holders of a class of shares with
preferential rights that may be authorized in the future. Currently there are
no shares of capital stock outstanding with special voting rights. The quorum
required for an ordinary meeting of shareholders consists of at least two
shareholders present in person or by proxy who hold or represent, in the
aggregate, at least thirty three and one third percent (33.3%) of our voting
rights. In the event that a quorum is not present within half an hour of the
scheduled time, the shareholders meeting will be adjourned to the same day of
the following week, at the same time and place, or such time and place as the
board of directors may determine by a notice to the shareholders. If at such
adjourned meeting a quorum is not present at the time of opening of such
meeting, two shareholders, at least, present in person or by proxy, shall
constitute a quorum.

-59-

---

---

An
ordinary resolution, such as a resolution for the election of directors, or the
appointment of auditors, requires the approval by the holders of a majority of
the voting rights represented at the meeting, in person, by proxy or through a
voting instrument and voting thereon. Under our articles of association, if a
resolution to amend the articles of association is recommended by our board of
directors, such recommended resolutions adoption in a general meeting of the
shareholders requires an ordinary majority. In any other case, such a
resolution requires approval of a special majority of more than three quarters
of the votes of the shareholders entitled to vote themselves, by proxy or
through a voting instrument.

The
directors are appointed by decision of an ordinary majority at a general
meeting. The directors have the right at any time, in a resolution approved by
at least a majority of our directors, to appoint any person as a director,
subject to the maximum number of directors specified in our articles of
association, to fill in a place which has randomly been vacated, or as an
addition to the board of directors. Any such director so appointed shall hold
office until the next annual general meeting and may be reelected.

Under
our articles of association our directors are elected by an ordinary majority
of the shareholders at each duly convened annual meeting, and they serve until
the next annual meeting, provided that external directors shall be elected in
accordance with the Israeli Companies Law. In each annual meeting the directors
that were elected at the previous annual meeting are deemed to have resigned
from their office. A resigning director may be reelected.

Under
the NASDAQ corporate governance rules, foreign private issuers are exempt from
many of the requirements if they instead elect to be exempted from such
requirements, provided they are not prohibited by home country practices and
disclose where they have elected to do so. In March 1999, we have received
exemptions form NASDAQ Rules 4320(e)(21)(E), 4320(e)(21)(F) and 4320(e)(21)(H)
regarding (i) quorum at general meetings of shareholders; (ii) solicitation and
provision of proxy statements; and (iii) obtaining of shareholders approvals
prior to certain issuances of securities, respectively. Nevertheless, we did
not rely on any of these exemptions at least since 2003 and we elected instead
to follow NASDAQ Marketplace Rules. Currently, we satisfy the respective NASDAQ
requirements, and have not elected to be exempt from any such requirement

Rights in the
Companys profits

All
of our ordinary shares have the rights to share in our profits distributed as a
dividend and any other permitted distribution.

Rights in the
event of liquidation

All
of our ordinary shares confer equal rights among them with respect to amounts
distributed to shareholders in the event of liquidation.

Changing
Rights Attached to Shares

According
to our articles of association, our share capital may be divided into different
classes of shares or the rights of such shares may be altered by an ordinary
majority resolution passed by the general meetings of the holders of each class
of shares separately, or after obtaining the written consent of the holders of
all of the classes of shares. As of the date hereof, we only have one class of
shares.

Annual and
Extraordinary Meetings

Our
board of directors must convene an annual meeting of shareholders every year by
no later than the end of fifteen months from the last annual meeting. Notice of
at least twenty-one days prior to the date of the meeting is required. An
extraordinary meeting may be convened by the board of directors, as it decides
or upon a demand of any two directors or 25% of the directors, whichever is lower,
or by one or more shareholders holding in the aggregate at least 5% of the
voting rights in the Company. Where the board of directors is requisitioned to
call a special meeting, it shall do so within twenty-one days, for a date that
shall not be later than thirty-five days from the date on which the notice of
the special meeting is published.

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Limitations
on the Rights to Own Securities in the U.S.

Our
memorandum and articles of association do not restrict in any way the ownership
of our shares by non-residents of Israel, and neither the memorandum and
articles of association nor Israeli law restricts the voting rights of
non-residents of Israel, except that under Israeli law, any transfer or issue
of shares of a company to a resident of an enemy state of Israel is prohibited
and shall have no effect, unless authorized by the Israeli Minister of Finance.

Limitations
on Change in Control and Disclosure Duties

Our
memorandum and articles of association do not restrict the change of control
nor do they impose any disclosure duties beyond the requirements set out in
Israeli law. For restriction of change of control provision under Israeli law,
see Item 3.D. Risk Factors, under the heading Risks Relating to Operations
in Israel  Anti-takeover Provisions above.

Changes in
Our Capital

Changes
in our capital are subject to the approval of the shareholders at a general
meeting by an ordinary majority of shareholders participating and voting in the
general meeting.

Fiduciary Duty and Duty of Care of Directors
and Officers

The
Companies Law codifies the duties directors and officers owe to a company. An
Officer includes a companys directors, general manager, general business
manager, executive vice president, vice president, any other person assuming
the responsibilities of any of the foregoing positions without regard to such
persons title and other managers directly subordinate to the general manager.
The directors and officers principal duties to the company are a duty of care
and a fiduciary duty to act in good faith for the companys benefit which
include:

|  |                                                                                                                                                                                     
|- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|v | the
  avoidance of any conflict of interest between the directors or officers
  position with the company and any other position he fulfills or with his
  personal affairs;      
|  |                                                                                                                                                                                     
|v | the
  avoidance of any act in competition with the companys business;                                                                                                              
|  |                                                                                                                                                                                     
|v | the
  avoidance of exploiting any of the companys business opportunities in order
  to gain a personal advantage for himself or for others; and                                    
|  |                                                                                                                                                                                     
|v | the disclosure
  to the company of any information and documentation relating to the companys
  affairs obtained by the director or officer due to his position with the
  company.

The
Companies Law requires that directors, officers or a controlling shareholder of
a public company disclose to the company any personal interest that he or she
may have, including all related material facts or documents in connection with
any existing or proposed transaction by the company. The disclosure must be
made without delay and no later than the first board of directors meeting at
which the transaction is first discussed.

Approval of Certain Transactions

Generally,
under the Companies Law, engagement terms of directors, including the grant of
an exemption from liability, purchase of directors and officers insurance, or
grant of indemnification (whether prospective or retroactive) and engagement
terms of such director with a company in other positions require the approval
of the audit committee, the board of directors and the shareholders of the
company. In addition, transactions between a public company and its director or
officer, or a transaction between such company and other person in which such
director or officer has a personal interest must be approved by such companys
board of directors, and if such transaction is considered an extraordinary
transaction (as defined below) it must receive the approval of such companys
audit committee as well.

The
Companies Law also requires that any extraordinary transaction between a public
company and its controlling shareholder or an extraordinary transaction between
such company and other person in which such companys controlling shareholder
has a personal interest must be approved by the audit committee, the board of
directors and the shareholders of the company by an ordinary majority, provided
that (i) such majority vote at the shareholders meeting shall include at least
one third (1/3) of the total votes of shareholders having no personal interest
in the transaction, participating at the voting (excluding abstaining votes);
or (ii) the total number of votes of shareholders mentioned in clause (i) above
who voted against such transaction does not exceed one percent (1%) of the
total voting rights in the company. An extraordinary transaction is defined
in the Companies Law as any of the following: (i) a transaction not in the
ordinary course of business; (ii) a transaction that is not on market terms; or
(iii) a transaction that is likely to have a material impact on the companys
profitability, assets or liability.

-61-

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The
Companies Law further provides that the engagement terms of a controlling
shareholder with the company, either as an officer or an employee, must also be
approved by such companys audit committee, board of directors and general
meeting by the special majority described above.

The
Companies Law prohibits any director who has a personal interest in a matter to
participate in the discussion and voting pertaining to such matter in the
companys board of directors or audit committee except for in circumstances
when the majority of the board of directors have a personal interest in the
matter and then such matter must also be approved by the companys
shareholders.

10.C. Material Contracts

Agreement
with Artel Software Corp.

In
March 2004 we acquired certain assets and assumed liabilities of Media 100 Inc.
as part of a pre-packaged bankruptcy filing of Media 100, see Item 4.A.
History and Development of the Company above. During the third quarter of 2005
we entered into an agreement with Artel Software Corp. (commonly known as Boris
FX), or Boris FX, for the sale of our Digital Non-Linear Editing product line
activity including all service, warranty and maintenance obligations for
$20,000. Under the terms of the agreement we and Boris FX will share revenues
derived from any future sales of these products and services up to $2 million
and we will supply Boris FX, at Boris FX request, with manufacturing services
for the Media 100 HD boards for a period of 24 months beginning on September
28, 2005.

Agreement
with Koor Corporate Venture Capital and Koor Industries Ltd.

In
January 2007, we purchased from Koor Corporate Venture Capital and Koor
Industries Ltd. 3,035,223 ordinary shares of Scopus, representing approximately
23% of Scopus issued share capital at an aggregate purchase price of
approximately $16 million.

Agreement with certain shareholders of Scopus

In
December 2007, we entered into agreements with certain shareholders of Scopus,
to purchase in the aggregate 1,380,000 ordinary shares of Scopus, representing,
at that time, approximately 10% of Scopus outstanding shares, for an aggregate
consideration of approximately $8.6 million. Following the completion of the
condition to the closing, the transaction was executed in January 2008.
Following the completion of the purchase, Optibase beneficially owned approximately
37% of Scopus issued shares.

Private Placement to Shlomo (Tom) Wyler

In
June, 2008, we issued in a private placement 2,816,901 ordinary shares of the Company to Mr. Shlomo
(Tom) Wyler, the President, Chief Executive Officer and Executive Chairman of
the Board of Directors, who is also considered as our controlling
shareholder, in consideration for $5 million
in cash, in the aggregate. For further information, see Item 7.B Related Party
Agreements.

10.D. Exchange Controls

There
are no Israeli government laws, decrees or regulations that restrict or that
affect our export or import of capital or the remittance of dividends, interest
or other payments to non-resident holders of our securities, except as
otherwise as set forth under Item 10.E. Taxation below.

-62-

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Under
Israeli law (and our memorandum and articles of association), persons who are
neither residents nor nationals of Israel may freely hold, vote and transfer
ordinary shares in the same manner as Israeli residents or nationals.

10.E. Taxation

The
following is a discussion of Israeli and United States tax consequences
material to us and our Israeli and U.S. shareholders. To the extent the
discussion is based on new tax legislation, which has not been subject to
judicial or administrative interpretation, the views expressed in the
discussion might not be accepted by the tax authorities in question. The
discussion is not intended, and should not be construed, as legal or
professional tax advice and does not exhaust all possible tax considerations.
Holders of our ordinary shares should consult their own tax advisors as to the
United States, Israeli or other tax consequences of the purchase, ownership and
disposition of ordinary shares, including, in particular, the effect of any
non-U.S., state or local taxes.

Israeli
taxation

Tax reform

On
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, or CFC, was introduced according to which an Israeli company may
become subject to Israeli taxes on certain income of a non-Israeli subsidiary
if, among other things, the subsidiarys primary source of income is passive
income (such as interest, dividends, royalties, rental income or capital
gains).

General
Corporate Tax Structure in Israel

Generally,
Israeli companies are subject to Corporate Tax on their taxable income. On
July 25, 2005, the Knesset (Israeli Parliament) approved an amendment to the
Income Tax Ordinance, which prescribes, among others, a gradual decrease in the
corporate tax rate in Israel to the following tax rates: in 2006 - 31%, in 2007
- 29%, in 2008 - 27%, in 2009 - 26% and in 2010 and thereafter - 25%. However,
the effective tax rate payable by a company which derives income from an
Approved Enterprise (as further discussed below) may be considerably less.

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

The
Law for the Encouragement of Industry (Taxes), 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 the income of which in a given tax year exclusive of income from
specified government loans, capital gains, interest and dividends, is derived
from an industrial enterprise owned by it. An industrial enterprise is defined
as an enterprise whose major activity in a given tax year is industrial
production activity.

Under
the Industry Encouragement Law, industrial companies are entitled to a number
of corporate tax benefits, including:

|  |                                                                                                                                                                                
|- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|v | deduction of
  purchase of know-how and patents and/or right to use a patent over an
  eight-year period;                                                                      
|  |                                                                                                                                                                                
|v | the right to
  elect, under specified conditions, to file a consolidated tax return with
  additional related Israeli industrial companies and an industrial holding
  company;
|  |                                                                                                                                                                                
|v | accelerated
  depreciation rates on equipment and buildings.                                                                                                                   

Expenses related to a public offering
on TASE and, as of 1.1.2003, on recognized stock markets outside of Israel, are deductible
in equal amounts over three years.

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 the operations begin and
the number of work shifts. An industrial company owning an Approved Enterprise
may choose between these special depreciation rates and the depreciation rates
available to the Approved Enterprise.

-63-

---

---

Eligibility
for benefits under the Industry Encouragement Law is not subject to receipt of
prior approval from any governmental authority. No assurance can be given that
the Israeli tax authorities will agree that we qualify, or, if we qualify, that
we will continue to qualify as an industrial company or that the benefits
described above will be available to us in the future.

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

Tax
benefits prior the 2005 amendment

The
Law for the Encouragement of Capital Investments, 1959, as amended (effective as
of April 1, 2005) (the Investments Law), provides that a proposed capital
investment in eligible facilities may, upon application to the Investment
Center of the Ministry of Industry and Commerce of the State of Israel, be
designated as an Approved Enterprise. The Investment Center bases its decision
as to whether or not to approve an application, among other things, on the
criteria set forth in the Investments Law and regulations, the then prevailing
policy of the Investment Center, and the specific objectives and financial
criteria of the applicant. Each certificate of approval for an Approved
Enterprise relates to a specific investment program delineated both by its
financial scope, including its capital sources, and by its physical
characteristics, e.g., the equipment to be purchased and utilized pursuant to
the program.

The
Investments Law provides that an Approved Enterprise is eligible for tax
benefits on taxable income derived from its Approved Enterprise programs. The
tax benefits under the Investments Law also apply to income generated by a
company from the grant of a usage right with respect to know-how developed by
the Approved Enterprise, income generated from royalties, and income derived
from a service which is auxiliary to such usage right or royalties, provided
that such income is generated within the Approved Enterprises ordinary course
of business. If a company has more than one approval or only a portion of its
capital investments are approved, its effective tax rate is the result of a
weighted average of the applicable rates. The tax benefits under the
Investments Law are not, generally, available with respect to income derived
from products manufactured outside of Israel. In addition, the tax benefits
available to an Approved Enterprise are contingent upon the fulfillment of
conditions stipulated in the Investments Law and regulations and the criteria
set forth in the specific certificate of approval, as described above. In the
event that a company does not meet these conditions, it would be required to
refund the amount of tax benefits, plus a consumer price index linkage
adjustment and interest.

The
Investments Law also provides that an Approved Enterprise is entitled to
accelerated depreciation on its property and equipment that are included in an
Approved Enterprise program in the first five years of using the equipment.

Taxable
income of a company derived from an Approved Enterprise is subject to corporate
tax at the maximum rate of 25%, rather than the regular corporate tax rate, for
the benefit period. This period is ordinarily seven years commencing with the
year in which the Approved Enterprise first generates taxable income, and is
limited to 12 years from commencement of production or 14 years from the date
of approval, whichever is earlier. Please note that the years limitation does
not apply to the exemption period.

A
company may elect to receive an alternative package of benefits. Under the
alternative package of benefits, a companys undistributed income derived from
the Approved Enterprise will be exempt from corporate tax for a period of
between two and ten years from the first year the company derives taxable
income under the program, depending on the geographic location of the Approved
Enterprise within Israel, and such company will be eligible for a reduced tax
rate for the remainder of the benefits period. A company that has elected the
alternative package of benefits, such as us, that subsequently pays a dividend
out of income derived from the Approved Enterprise during the tax exemption
period will be subject to corporate tax in respect of the amount distributed,
including any taxes thereon, 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 companys ordinary shares held by foreign
shareholders. The dividend recipient is subject to withholding tax at the rate
of 15% applicable to dividends from Approved Enterprises, if the dividend is
distributed during the tax exemption period or within twelve years thereafter.
The company must withhold this tax at source.

-64-

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Foreign
investors Company (FIC)

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 which more than 25% of its share capital and combined share and loan
capital is owned by non-Israeli residents. 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. As specified above, depending
on the geographic location of the Approved Enterprise within Israel, income
derived from the Approved Enterprise program may be entitled to the following:

|  |                                                                                                                                                                                                                                                                                           
|- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|v | Extension of
  the benefit period up to ten years.                                                                                                                                                                                                                                        
|  |                                                                                                                                                                                                                                                                                           
|v | An
  additional period of reduced corporate tax liability at rates ranging between
  10% and 25%, depending on the level of foreign (i.e., non-Israeli) ownership
  of our shares. Those tax rates and the related levels of foreign investment
  are as set forth in the following table:

Region
B

| |                     |  |                    |           |                      |  |                              |  |  |          |   | 
| | ------------------- |  | ------------------ | --------- | -------------------- |  | ---------------------------- |  |  | -------- | - | 
| | Rate of
Reduced Tax |  | Reduced Tax
Period |           | Tax Exemption
Period |  | Percent of
Foreign Ownership | 
| |                     |  |                    |           |                      |  |                              | 
| |                     |  |                    |           |                      |  |                              |  |  |          |   | 
| | 25                  |  |                    | 1
  years |                      |  | 6
  years                    |  |  | 0-25     | % | 
| | 25                  |  |                    | 4
  years |                      |  | 6
  years                    |  |  | 25-48.99 | % | 
| | 20                  |  |                    | 4
  years |                      |  | 6
  years                    |  |  | 49-73.99 | % | 
| | 15                  |  |                    | 4
  years |                      |  | 6
  years                    |  |  | 74-89.99 | % | 
| | 10                  |  |                    | 4
  years |                      |  | 6
  years                    |  |  | 90-100   | % | 
|

---

Region
A

| |                     |  |                    |           |                      |  |                              |  |  |          |   | 
| | ------------------- |  | ------------------ | --------- | -------------------- |  | ---------------------------- |  |  | -------- | - | 
| | Rate of
Reduced Tax |  | Reduced Tax
Period |           | Tax Exemption
Period |  | Percent of
Foreign Ownership | 
| |                     |  |                    |           |                      |  |                              | 
| |                     |  |                    |           |                      |  |                              |  |  |          |   | 
| | 25                  |  |                    | 0
  years |                      |  | 10
  years                   |  |  | 0-25     | % | 
| | 25                  |  |                    | 0
  years |                      |  | 10
  years                   |  |  | 25-48.99 | % | 
| | 20                  |  |                    | 0
  years |                      |  | 10
  years                   |  |  | 49-73.99 | % | 
| | 15                  |  |                    | 0
  years |                      |  | 10
  years                   |  |  | 74-89.99 | % | 
| | 10                  |  |                    | 0
  years |                      |  | 10
  years                   |  |  | 90-100   | % | 

Other
Region

| |                     |  |                    |           |                      |  |                              |  |  |          |   | 
| | ------------------- |  | ------------------ | --------- | -------------------- |  | ---------------------------- |  |  | -------- | - | 
| | Rate of
Reduced Tax |  | Reduced Tax
Period |           | Tax Exemption
Period |  | Percent of
Foreign Ownership | 
| |                     |  |                    |           |                      |  |                              | 
| |                     |  |                    |           |                      |  |                              |  |  |          |   | 
| | 25                  |  |                    | 5
  years |                      |  | 2
  years                    |  |  | 0-25     | % | 
| | 25                  |  |                    | 8
  years |                      |  | 2
  years                    |  |  | 25-48.99 | % | 
| | 20                  |  |                    | 8
  years |                      |  | 2
  years                    |  |  | 49-73.99 | % | 
| | 15                  |  |                    | 8
  years |                      |  | 2
  years                    |  |  | 74-89.99 | % | 
| | 10                  |  |                    | 8
  years |                      |  | 2
  years                    |  |  | 90-100   | % | 

|  |                                                                                                                            
|- | ---------------------------------------------------------------------------------------------------------------------------
|v | The twelve
  years limitation period for reduced tax rate of 15% on dividend from the
  Approved Enterprise will not apply.

Subject
to applicable provisions concerning income under the alternative package of
benefits, dividends paid by a company are considered to be attributable to
income received from the entire company and the companys effective tax rate is
the result of a weighted average of the various applicable tax rates, excluding
any tax-exempt income. Under the Investments Law, a company that has elected
the alternative package of benefits is not obliged to distribute retained profits,
and may generally decide from which years profits to declare dividends.

-65-

---

---

Currently
we have five Approved Enterprises programs under the Capital Investment Law,
which entitle us to some tax benefits. Income derived from these alternative
benefit programs is exempt from tax for a period of ten years, starting in the
first year in which we generate taxable income from the Approved Enterprise,
subject to certain conditions. As
mentioned above the years limitation does not apply to the exemption period.

Tax benefits under the 2005 Amendment

The
amendment includes revisions to the criteria for investments qualified to
receive tax benefits as an Approved Enterprise. The amendment applies to new
investment programs and investment programs commencing after 2004, and does not
apply to investment programs approved prior to December 31, 2004. However, a
company that was granted benefits according to section 51 of the Investment Law
would not be allowed to commence production for a period of 3 years from the
companys previous year of commencement of benefits under the investment law
(prior the amendment).

A
company wishing to receive the tax benefits afforded to a Benefited Enterprise
is required to select the tax year from which the period of benefits under the
Investment Law are to commence by notifying the Israeli Tax Authority within 12
months of the end of that year.

(Our
company will continue to enjoy its current tax benefits in accordance with the
provisions of the Investment Law prior to its revision, but if our company is
granted any new benefits in the future they will be subject to the provisions
of the amended Investment Law. Therefore, the following discussion is a summary
of the Investment Law prior to its amendment as well as the relevant changes
contained in the new legislation)

The
amendment simplifies the approval process: according to the amendment, only
Approved Enterprises receiving cash grants require the approval of the
Investment Center. The Investment Center will be entitled, to approve such
programs only until 30.12.2007

The
Amendment does not apply to benefits included in any certificate of approval
that was granted before the Amendment came into effect, which will remain
subject to the provisions of the Investment Law as they were on the date of
such approval.

Tax
benefits are available under the Amendment to production facilities (or other
eligible facilities), which are generally required to derive more than 25% of
their business income from export (referred to as a Benefited Enterprise). In
order to receive the tax benefits, the Amendment states that the company must
make an investment in the Benefited Enterprise exceeding a certain percentage
or a minimum amount specified in the Law. Such investment may be made over a
period of no more than three years ending at the end of the year in which the
company requested to have the tax benefits apply to the Benefited Enterprise
(the Year of Election). Where the company requests to have the tax benefits
apply to an expansion of existing facilities, then only the expansion will be
considered a Benefited Enterprise and the companys effective tax rate will be
the result of a weighted combination of the applicable rates. In this case, the
minimum investment required in order to qualify as a Benefited Enterprise is
required to exceed a certain percentage or a minimum amount of the companys
production assets before the expansion.

The
duration of tax benefits is subject to a limitation of the earlier of 7 to 10
years from the Commencement Year, or 12 years from the first day of the Year of
Election. The tax benefits granted to a Benefited Enterprise are determined, as
applicable to its geographic location within Israel, according to one of the
following new tax routes, which may be applicable to us:

|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|v | Similar to
  the currently available alternative route, exemption from corporate tax on
  undistributed income for a period of two to ten years, depending on the
  geographic location of the Benefited Enterprise within Israel, and a reduced
  corporate tax rate of 10% to 25% for the remainder of the benefits period,
  depending on the level of foreign investment in each year. Benefits may be
  granted for a term of seven to ten years, depending on the level of foreign
  investment in the company. If the company pays a dividend out of income
  derived from the Benefited Enterprise during the tax exemption period, such
  income will be subject to corporate tax at the applicable rate (10%-25%) in
  respect of the gross amount of the dividend that we may distribute. The
  company is required to withhold tax at the source at a rate of 15% from any
  dividends distributed from income derived from the Benefited Enterprise; and

|  |                                                                                                                                                                                                                                                                                                                                                                                                       
|- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|v | A special
  tax route, which enables companies owning facilities in certain geographical
  locations in Israel to pay corporate tax at the rate of 11.5% on income of
  the Benefited Enterprise. The benefits period is ten years. Upon payment of
  dividends, the company is required to withhold tax at source at a rate of 15%
  for Israeli residents and at a rate of 4% for foreign residents.

-66-

---

---

Generally,
a company that is Abundant in Foreign Investment (as defined in the Investments
Law) is entitled to an extension of the benefits period by an additional five
years, depending on the rate of its income that is derived in foreign currency.

The
Amendment changes the definition of foreign investment in the Investments Law
so that the definition now requires a minimal investment of NIS 5 million by
foreign investors. Furthermore, such definition now also includes the purchase
of shares of a company from another shareholder, provided that the companys
outstanding and paid-up share capital exceeds NIS 5 million. Such changes to
the aforementioned definition will take effect retroactively from 2003.

The
Amendment will apply to Approved Enterprise programs in which the year of
election under the Investments Law is 2004 or later, unless such programs received
approval from the Investment Center on or prior to December 31, 2004, in which
case the Amendment provides that terms and benefits included in any certificate
of approval already granted will remain subject to the provisions of the law as
they were on the date of such approval.

Special Provisions
Relating to Measurement of Taxable Income

Our
Israeli subsidiary is taxed under the Income Tax Law (Inflationary
Adjustments), 1985, generally referred to as the Inflationary Adjustments Law.
The Inflationary Adjustments Law is highly complex and represents an attempt to
overcome the problems presented to a traditional tax system by an economy
undergoing rapid inflation. Its features, which are material to us, are
summarized as follows:

|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|v | Where a
  companys equity, as calculated under the Inflationary Adjustments Law,
  exceeds the depreciated cost of its fixed assets (as defined in the
  Inflationary Adjustments Law), a deduction from taxable income is permitted
  equal to the excess multiplied by the applicable annual rate of inflation.
  The maximum deduction permitted in any single tax year is 70% of taxable
  income, with the unused portion permitted to be carried forward, linked to
  the Israeli consumer price index. The unused portion that was carried forward
  may be deductible in full in the following year.
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|v | Where a
  companys depreciated cost of fixed assets exceeds its equity, then the
  excess multiplied by the applicable annual rate of inflation is added to
  taxable income. (hereinafter: Inflation supplement).
  Note, the inflation supplement will only be added to the corporate income but
  not to other incomes such as capital gains.                                                                                                                                                                                                                                                          
|  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|v | Subject to
  specified limitations, depreciation deductions on fixed assets and losses
  carried forward are adjusted for inflation based on the change in the
  consumer price index.                                                                                                                                                                                                                                                                                                                                                                                                                       

The
Minister of Finance may, with the approval of the Knesset Finance Committee,
determine by decree, during a certain fiscal year (or until February 28th of
the following year) in which the rate of increase of the Israeli consumer price
index would not exceed or did not exceed, as applicable, 3.0%, that some or all
of the provisions of the Inflationary Adjustments Law shall not apply with
respect to such fiscal year, or that the rate of increase of the Israeli
consumer price index relating to such fiscal year shall be deemed to be 0%, and
to make the adjustments required to be made as a result of such determination.

In
specified circumstances, gains on traded securities, which might otherwise be
eligible for reduced rates of tax, will be subject to regular corporate tax
rate.

-67-

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---

Tax
Benefits of Research and Development

Israeli
tax law permits, under some conditions, a tax deduction in the year incurred
for expenditures, including capital expenditures, in scientific research and
development projects, if the expenditures are approved by the relevant
government ministry and if the research and development is for the promotion of
the enterprise and is carried out by, or on behalf of, a company seeking the
deduction. However, the amount of such expenses shall be reduced by the sum of
any funds received through government grants for the finance of such scientific
research and development projects. Expenditures not so approved are deductible
over a three-year period.

Capital
Gains Tax on Sales of Our Ordinary Shares

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

Generally, until the 2006 tax year, capital gains tax was imposed on Israeli
resident individuals at a rate of 15% on real gains derived on or after January
1, 2003, from the sale of shares in, among others, Israeli companies publicly
traded on Nasdaq or on a recognized stock exchange or regulated market in a
country that has a treaty for the prevention of double taxation with Israel.
This tax rate was contingent upon the shareholder not claiming a deduction for
financing expenses in connection with such shares (in which case the gain was
generally be taxed at a rate of 25%), and did not apply to: (i) the sale
of shares to a relative (as defined in the Israeli Income Tax Ordinance); (ii)
the sale of shares by dealers in securities; (iii) the sale of shares by
shareholders that report in accordance with the Inflationary Adjustments Law
(that were taxed at corporate tax rates for corporations and at marginal tax
rates for individuals); or (iv) the sale of shares by shareholders who
acquired their shares prior to an initial public offering (that may be subject
to a different tax arrangement).

As
of January 1, 2006, the tax rate applicable to capital gains derived from the
sale of shares, whether listed on a stock market or not, is 20% for Israeli
individuals, unless such shareholder claims a deduction for financing expenses
in connection with such shares, in which case the gain will generally be taxed
at a rate of 25%. Additionally, if such shareholder is considered a material
shareholder at any time during the 12-month period preceding such sale,i.e., such shareholder holds directly or
indirectly, including with others, at least 10% of any means of control in the
company, the tax rate shall be 25%. Israeli companies are subject to the Corporate
Tax rate on capital gains derived from the sale of shares, unless such
companies were not subject to the Adjustments Law (or certain regulations) at
the time of publication of the aforementioned amendment to the Tax Ordinance
that came into effect on January 1, 2006, in which case the applicable tax rate
is 25%. However, the foregoing tax rates do not apply to: (i) dealers in
securities; and (ii) shareholders who acquired their shares prior to an initial
public offering (that may be subject to a different tax arrangement).

The
tax basis of shares acquired prior to January 1, 2003 will be determined in
accordance with the average closing share price in the three trading days
preceding January 1, 2003. However, a request may be made to the tax
authorities to consider the actual adjusted cost of the shares as the tax basis
if it is higher than such average price.

Non-Israeli
residents are exempt from Israeli capital gains tax on any gains derived from
the sale of shares of Israeli companies publicly traded on a recognized stock
exchange or regulated market outside of Israel, provided however that such
capital gains are not derived from a permanent establishment in Israel, such
shareholders are not subject to the Adjustments Law, and such shareholders did
not acquire their shares prior to an initial public offering. However,
non-Israeli corporations will not be entitled to such exemption if an Israeli
resident (i) has a controlling interest of 25% or more in such non-Israeli
corporation, or (ii) is the beneficiary or is entitled to 25% or more of the
revenues or profits of such non-Israeli corporation, whether directly or
indirectly.

In
some instances where our shareholders may be liable to Israeli tax on the sale
of their ordinary shares, the payment of the consideration may be subject to
the withholding of Israeli tax at the source.

-68-

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Pursuant
to the Convention Between the government of the United States of America and
the government of Israel with Respect to Taxes on Income, as amended (the
U.S.-Israel Tax Treaty), the sale, exchange or disposition of ordinary shares
by a person who (i) holds the ordinary shares as a capital asset, (ii)
qualifies as a resident of the United States within the meaning of the U.S.-Israel
Tax Treaty and (iii) is entitled to claim the benefits afforded to such person
by the U.S.-Israel Tax Treaty, generally, will not be subject to the Israeli
capital gains tax. Such exemption will not apply if (i) such Treaty 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 such sale,
exchange or disposition, subject to certain conditions, or (ii) the capital
gains from such sale, exchange or disposition can be allocated to a permanent
establishment in Israel. In such case, the sale, exchange or disposition of
ordinary shares would be subject to Israeli tax, to the extent applicable;
however, under the U.S.-Israel Tax Treaty, such Treaty U.S. Resident would be
permitted to claim a credit for such taxes against the U.S. federal income tax
imposed with respect to such sale, exchange or disposition, subject to the
limitations in U.S. laws applicable to foreign tax credits. The 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. Such sources of income include passive income such as dividends,
royalties and interest, as well as non-passive income from services rendered in
Israel. As of 2006, distributions of dividends other than bonus shares, or
stock dividends, income tax is withheld at the source at the rate of 20%, 15% for dividends generated by an Approved
Enterprise (if the dividend is distributed during the tax exemption period or
within 12 years thereafter. In the event, however, that the company is
qualifies as a Foreign Investors Company, there is no such time limitation),
unless a different rate is provided in a treaty between Israel and the
shareholders country of residence.

Under
the U.S.-Israel Tax Treaty, the maximum tax on dividends paid to a holder of
ordinary shares who is a Treaty U.S. Resident is 20%. However, under the
Investments Law, dividends generated by an Approved Enterprise (or Benefited
Enterprise) are taxed at the rate of 15%. Furthermore, dividends not generated
by an Approved Enterprise (or Benefited Enterprise) paid to a U.S. corporation
holding at least 10% of our issued voting power during the part of the tax year
which precedes the date of payment of the dividend and during the whole of its
prior tax year, are generally taxed at a rate of 12.5%.

Foreign Exchange Regulations

We
are permitted to pay in Israeli and non-Israeli currency:

| |   |                                                                                                               
| | - | --------------------------------------------------------------------------------------------------------------
| | v | dividends to
  holders of our ordinary shares; and                                                            
| |   |                                                                                                               
| | v | Any amounts
  payable to the holders of 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.

United
States Federal Income Tax Consequences

The
following is a summary of certain material U.S. federal income tax consequences
that apply to U.S. Holders who hold ordinary shares as capital assets. This
summary is based on the United States Internal Revenue Code of 1986, as amended
(the Code), Treasury regulations promulgated thereunder, judicial and administrative
interpretations thereof, and the U.S.-Israel Tax Treaty, all as in effect on
the date hereof and all of which are subject to change either prospectively or
retroactively. This summary does not address all tax considerations that may be
relevant with respect to an investment in ordinary shares. This summary does
not account for the specific circumstances of any particular investor, such as:

|  |                                                
|- | -----------------------------------------------
|v | broker-dealers,                                
|  |                                                
|v | financial
  institutions,                      
|  |                                                
|v | certain
  insurance companies,                 
|  |                                                
|v | investors liable
  for alternative minimum tax,

-69-

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|  |                                                                                                    
|- | ---------------------------------------------------------------------------------------------------
|v | tax-exempt
  organizations,                                                                        
|  |                                                                                                    
|v | non-resident
  aliens of the U.S. or taxpayers whose functional currency is not the U.S.
  dollar, 
|  |                                                                                                    
|v | persons who
  hold the ordinary shares through partnerships or other pass-through entities,        
|  |                                                                                                    
|v | investors
  that actually or constructively own 10 percent or more of our voting shares,
  and     
|  |                                                                                                    
|v | investors
  holding ordinary shares as part of a straddle or a hedging or conversion
  transaction.

This
summary does not address the effect of any U.S. Federal taxation other than
U.S. Federal income taxation. In addition, this summary does not include any
discussion of state, local or foreign taxation. You are urged to consult your
tax advisors regarding the non-U. S. and United States federal, state and local
tax considerations of an investment in ordinary shares.

For
purposes of this summary, a U.S. Holder is:

|  |                                                                                                                                                                                                                                                    
|- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|v | an
  individual who is a citizen or, a resident of the United States for U.S.
  federal income tax purposes;                                                                                                                                       
|  |                                                                                                                                                                                                                                                    
|v | a
  partnership, corporation or other entity created or organized in or under the
  laws of the United States or any political subdivision thereof;                                                                                                
|  |                                                                                                                                                                                                                                                    
|v | an estate
  whose income is subject to U.S. federal income tax regardless of its source;                                                                                                                                                           
|  |                                                                                                                                                                                                                                                    
|v | a trust if:
  (a) a court within the United States is able to exercise primary supervision
  over administration of the trust, and (b) one or more United States persons
  have the authority to control all substantial decisions of the trust; or
|  |                                                                                                                                                                                                                                                    
|v | a trust, if
  the trust were in existence and qualified as a United States person, within
  the meaning of the Code, on August 20, 1996 under the law as then in effect
  and elected to continue to be so treated.                              

Taxation of
Dividends

The
gross amount of any distributions received with respect to ordinary shares,
including the amount of any Israeli taxes withheld therefrom, will constitute
dividends for U.S. Federal income tax purposes, to the extent of our current
and accumulated earnings and profits as determined for U.S. federal income tax
principles. You will be required to include this amount of dividends in gross
income as ordinary income. Distributions in excess of our earnings and profits
will be treated as a non-taxable return of capital to the extent of your tax
basis in the ordinary shares and any amount in excess of your tax basis, will
be treated as gain from the sale of ordinary shares. See Item 10.D. Exchange
Controls under the headingDisposition
of Ordinary Shares below for the discussion on the taxation of capital gains.
Dividends will not qualify for the dividends-received deduction generally
available to U.S. corporations under Section 243 of the Code.

Recently
enacted amendments to the Code, as amended, provide that certain dividend
income received by individual U.S. Holders, with respect to taxable years
beginning on or before December 31,2010 may be eligible for a reduced rate of
taxation. Such dividend income will be taxed at the applicable long-term
capital gains rate (currently, a maximum rate of 15%) if the dividend is
received from a qualified foreign corporation, and the shareholder of such
foreign corporation holds such stock for at least 61 days during the 121-day
period that begins on the date that is 60 days before the ex-dividend date for
the stock. The holding period is tolled for any days on which the shareholder
has reduced his risk of loss. A qualified foreign corporation is one that is
eligible for the benefits of a comprehensive income tax treaty with the United States.
A foreign corporation will be treated as qualified with respect to any dividend
paid, if its stock is readily tradable on an established securities market in
the United States. Dividend income will not qualify for the reduced rate of
taxation if the corporation is a passive foreign investment company, or PFIC (seebelow), for the year in which the
dividend is distributed or for the previous year.

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

-70-

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Any
Israeli withholding tax imposed on such dividends will be a foreign income tax
eligible for credit against a U.S. Holders U.S. federal income tax liability,
subject to certain limitations set out in the Code (or, alternatively, for
deduction against income in determining such tax liability). The limitations
set out in the Code include computational rules under which non-U.S. tax
credits allowable with respect to specific classes of income cannot exceed the
U.S. federal income taxes otherwise payable with respect to each such class of
income. Dividends generally will be treated as foreign-source passive income
for United States foreign tax credit purposes. Foreign income taxes exceeding
the credit limitation for the year of payment or accrual may be carried back
for the first preceding taxable years and forward for the first ten taxable
years in order to reduce U.S. federal income taxes, subject to the credit
limitation applicable in each of such years. A U.S. Holder will be denied a
foreign tax credit with respect to Israeli income tax withheld from dividends
received on the ordinary shares to the extent such U.S. Holder has not held the
ordinary shares for at least 16 days of the 31-day period beginning on the date
which is 15 days before the ex-dividend date or to the extent such U.S. Holder
is under an obligation to make related payments with respect to substantially
similar or related property. Any days during which a U.S. Holder has
substantially diminished its risk of loss on the ordinary shares are not
counted toward meeting the 16-day holding period required by the statute. The
rules relating to the determination of the foreign tax credit are complex, and
you should consult with your personal tax advisors to determine whether and to
what extent you would be entitled to this credit.

Dispositions of
Ordinary Shares

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

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

Passive Foreign
Investment Companies

There
is a substantial risk that we are a passive foreign investment company, or
PFIC, for U.S. federal income tax purposes. Our treatment as a PFIC could
result in a reduction in the after-tax return to the U.S. Holders of our
ordinary shares and may cause a reduction in the value of such shares.

For
U.S. federal income tax purposes, we will be classified as a PFIC for any
taxable year in which either (i) 75% or more of our gross income is passive
income, or (ii) the average percentage of the value of all of our assets for
the taxable year which produce or are held for the production of passive income
is at least 50%. For this purpose, cash is considered to be an asset which
produces passive income. Passive income includes, among others, dividends,
interest, certain types of royalties and rents, annuities and the excess of
gains over losses from the disposition of assets which produce passive income.
As a result of our substantial cash position and the decline in the value of
our stock, we may be a
PFIC under a literal application of the asset test that looks solely to
market value. If we are a PFIC for U.S. federal income tax purposes, U.S.
Holders of our ordinary shares would be required, in certain circumstances, to
pay an interest charge together with tax calculated at maximum rates on certain
excess distributions, including any gain on the sale of ordinary shares.

The
consequences described above can be mitigated if the U.S. Holder makes an
election to treat us as a qualified electing fund, or QEF. A shareholder making
the QEF election is required for each taxable year to include in income a pro
rata share of the ordinary earnings and net capital gain of the QEF, subject to
a separate election to defer payment of taxes, which deferral is subject to an
interest charge. We have agreed to supply U.S. Holders with the information
needed to report income and gain pursuant to a QEF election. The QEF election
is made on a shareholder-by-shareholder basis and can be revoked only with the
consent of the Internal Revenue Service, or IRS.

-71-

---

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As
an alternative to making the QEF election, the U.S. Holder of PFIC stock which
is publicly traded could mitigate the consequences of the PFIC rules by
electing to mark the stock to market annually, recognizing as ordinary income
or loss each year an amount equal to the difference as of the close of the
taxable year between the fair market value of the PFIC stock and the U.S. Holders
adjusted tax basis in the PFIC stock. Losses would be allowed only to the
extent of net mark-to-market gain previously included by the U.S. Holder under
the election for prior taxable years. All U.S. Holders are advised to consult
their own tax advisers about the PFIC rules generally and about the
advisability, procedures and timing of their making any of the available tax
elections, including the QEF or mark-to-market elections.

Backup
Withholding and Information Reporting

Payments
in respect of ordinary shares may be subject to information reporting to the
U.S. Internal Revenue Service and to a 28 percent U.S. backup withholding tax.
Backup withholding will not apply, however, if you (i) are a corporation or
come within certain exempt categories, and demonstrate the fact when so
required, or (ii) furnish a correct taxpayer identification number and make any
other required certification. Backup withholding is not an additional tax.
Amounts withheld under the backup withholding rules may be credited against a
U.S. Holders U.S. tax liability, and a U.S. Holder may obtain a refund of any
excess amounts withheld under the backup withholding rules by filing the
appropriate claim for refund with the IRS. Any U.S. holder who holds 10% or
more in vote or value of our ordinary shares may be subject to certain
additional United States information reporting requirements.

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

10.F. Dividend and Paying Agents

Not
applicable.

10.G. Statement by Experts

Not
applicable.

10.H. Documents on Display

Reports
and other information of Optibase filed electronically with the SEC may be
found at www.sec.gov. They can also be inspected without charge and copied at
prescribed rates at the public reference facilities maintained by the SEC
Public Reference Room at 100 F Street, NE, Washington, D.C. 20549. Copies of
this material are also available by mail from the Public Reference Room at 100
F Street, NE, Washington, D.C. 20549, at prescribed rates.

10.I. Subsidiary Information

Not
applicable.

Item 11. Quantitative and Qualitative
Disclosure about Market Risk

Most
of our revenues are generated in U.S. dollars but a portion of our expenses is
incurred in NIS. Therefore, our results of operations may be seriously harmed
by inflation in Israel and currency fluctuations. In 2007, and until June 25,
2008, the dollar depreciated against the NIS by approximately 11.9%. As a
result, we are exposed to risk to the extent that the rate of inflation in
Israel exceeds the rate of devaluation of the NIS in relation to the dollar or
if the timing of devaluation lags behind inflation in Israel. In that event,
the dollar cost of our operations in Israel will increase and our
dollar-measured results of operations will be adversely affected. Our
operations also could be adversely affected if we are unable to guard against
currency fluctuations in the future. Accordingly, we may enter into currency
hedging transactions to decrease the risk of financial exposure from
fluctuations in the exchange rate of the dollar against the NIS. These
measures, however, may not adequately protect us from material adverse effects
due to the impact of inflation in Israel.

-72-

---

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In
our balance sheet, we remeasure into U.S. dollars all monetary accounts
(principally cash and cash equivalents and liabilities) that are maintained in
other currencies. For this remeasurement we use the foreign exchange rate at
the balance sheet date. Any gain or loss that results from this remeasurement
is reflected in the statement of income as financial income or financial
expense, as appropriate.

We
measure and record non-monetary accounts in our balance sheet (principally
fixed assets, prepaid expenses, and share capital) in U.S. dollars. For this
measurement we use the U.S. dollar value in effect at the date that the asset
or liability was initially recorded in our balance sheet (the date of the
transaction).

Interest Rate and Rating Risks

Our
exposure to market risk for changes in interest rates in the U.S. relates primarily
to our investment in marketable securities. To date, our marketable securities
are comprised of structured notes and corporate bonds. The fair value of our
long and short-term securities is based upon their market values. Changes in
U.S. interest rates, as well as rating changes done by the leading rating
agencies, to the bonds issuers, could affect our financial results.

Investments Risks

In the second
quarter of 2003, we transferred approximately $39.3 million of our monies and
investments to Optibase, Inc. to achieve better net profit from the investment.
As of December 31, 2007, our available net cash was $18.4 million. We manage
our available cash on a discretionary basis, within the framework of an
investment policy based upon an established set of guidelines approved by our
board of directors. For information concerning our investment policy, see Item
5.B. Liquidity and Capital Resources above. The investment guidelines are to
be reviewed periodically by our board of directors with the President and Chief
Financial Officer. As of December 31, 2007, approximately 38% of our available
cash invested in structured notes acquired from several banks. The notes bear
interest at a rate of 10% to 10.5% per annum. Under the terms of the notes, the
issuer of the notes has a call option that allows such issuer to prepay the
notes at PAR at any coupon date. Changes in the rate of the LIBOR may
significantly affect the market value of our investments. Our available cash
(including the Notes) is generally classified as available for sale and,
consequently, is recorded on the consolidated balance sheets at fair value with
unrealized gains or losses reported as a separate component of accumulated
other comprehensive income (loss). In cases the decline in fair value of our
investments is judged to be other- than- temporary, losses are reported as part
of the Financial income (expenses) for the period. As of date all of our
structure notes were called back at PAR by the issuer and all of our corporate
bonds were sold.

Furthermore,
our equity and other investments in private companies are subject to risk of
loss of investment capital. These investments are inherently risky as the
market for the technologies or products they have under development are typically
in the early stages and may never materialize. We could lose our entire
investment in these companies. At any time, a sharp rise in interest rates
could have a material adverse impact on the fair value of our investments as
well as on our results of operations. We do not currently hedge these interest
rate exposures.

The
table set forth shows the construction of our available cash investments
classified as available for sale (in thousands):

|                                                |  |                |        |                        |   |                         |  |              |        |                |   |                        |  |                         |       |              |   |     |  |   |   |  |   |       | 
|----------------------------------------------- |  | -------------- | ------ | ---------------------- | - | ----------------------- |  | ------------ | ------ | -------------- | - | ---------------------- |  | ----------------------- | ----- | ------------ | - | --- |  | - | - |  | - | ----- | 
|                                                |  | December 31,   |       
|                                                |  | 2006           |        | 2007                   |  
|                                                |  | Amortized Cost |        | Gross Unrealized Gains |   | Gross Unrealized Losses |  | Market Value |        | Amortized Cost |   | Gross Unrealized Gains |  | Gross Unrealized Losses |       | Market Value |  
|                                                |  |                |        |                        |   |                         |  |              |        |                |   |                        |  |                         |       |              |   |     |  |   |   |  |   |       | 
|Available-for-sale:                             |  |                |        |                        |   |                         |  |              |        |                |   |                        |  |                         |       |              |   |     |  |   |   |  |   |       | 
|Government and corporate debt                   |  | $              | 15,650 |                        | $ | 909                     |  | $            |        |                | $ | 16,559                 |  | $                       | 1,340 |              | $ | 217 |  | $ |   |  | $ | 1,557 | 
|Government and corporate structured notes
  (*) |  |                | 28,911 |                        |   |                        |  |              | (1,248 | )              |   | 27,663                 |  |                         | 6,868 |              |   | 49  |  |   |  |  |   | 6,917 | 
|Total securities                                |  | $              | 44,561 |                        | $ | 909                     |  | $            | (1,248 | )              | $ | 44,222                 |  | $                       | 8,208 |              | $ | 266 |  | $ |   |  | $ | 8,474 | 

|    |                                                                                                                                                                                                                                          
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(*) | The expected
  maturities may differ from the contractual maturities because debtors may
  have the right to call or prepay obligations without penalties. As of date
  all of our structure notes were called back at PAR by the issuer.

-73-

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Item
12. Description of Securities Other than Equity Securities

Not
applicable.

Part II

Item
13. Defaults, Dividend Arrearages and Delinquencies

Not
applicable.

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

Not
applicable.

Item
15T. Controls and Procedures

(a)
     Our management, including our chief executive
officer and chief financial officer, has evaluated the effectiveness of our
disclosure controls and procedures as of December 31, 2007. Based on such
review, our chief executive officer and chief financial officer have concluded
that we have in place effective controls and procedures designed to ensure that
information required to be disclosed by us in the reports that we file or
submit under the Securities Exchange Act of 1934, as amended, is accumulated
and communicated to our management, including our principal executive and
principal financial officers, or persons performing similar functions, as
appropriate to allow timely decisions regarding required disclosure, and is
recorded, processed, summarized and reported, within the time periods specified
in the SECs rules and forms.

(b)
     Our management, under the supervision of our
chief executive officer and chief financial officer, is responsible for
establishing and maintaining adequate internal control over our financial
reporting, as defined in Rules 13a-15(f) and 15d-15(f) of the Securities
Exchange Act of 1934, as amended. The Companys internal control over financial
reporting is defined as a process designed to provide reasonable assurance
regarding the reliability of financial reporting and the preparation of
financial statements for external purposes in accordance with generally
accepted accounting principles. Internal control over financial reporting
includes policies and procedures that:

| |   |                                                                                                                                                                                                                                                                                                                                      
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | pertain to
  the maintenance of records that in reasonable detail accurately and fairly
  reflect our transactions and asset dispositions;                                                                                                                                                                                           
| |   |                                                                                                                                                                                                                                                                                                                                      
| |  | provide reasonable
  assurance that transactions are recorded as necessary to permit the
  preparation of our financial statements in accordance with generally accepted
  accounting principles, and that our receipts and expenditures are being made
  only in accordance with authorizations of our management and directors; and
| |   |                                                                                                                                                                                                                                                                                                                                      
| |  | provide
  reasonable assurance regarding the prevention or timely detection of
  unauthorized acquisition, use or disposition of assets that could have a
  material effect on our financial statements.                                                                                                                             

-74-

---

---

Due
to its inherent limitations, internal control over financial reporting may not
prevent or detect misstatements. In addition, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree of compliance
with the policies or procedures may deteriorate.

Under
the supervision and with the participation of our management, including our
principal executive officer and principal financial officer, we evaluated the
effectiveness of our internal control over financial reporting as of
December 31, 2007 based on the framework for Internal Control-Integrated
Framework set forth by The Committee of Sponsoring Organizations of the
Treadway Commission. Based on this evaluation, our management concluded that
the Companys internal controls over financial reporting were effective as of
December 31, 2007.

This management report on internal control over financial reporting shall not
be deemed to be filed for purposes of Section 18 of the Securities Exchange Act
of 1934, as amended or otherwise subject to the liabilities of that Section.

This annual report does not include an attestation report of our registered
public accounting firm regarding internal control over financial reporting.
Managements report was not subject to attestation by our registered public
accounting firm pursuant to temporary rules of the Commission that permit us to
provide only managements report in this Annual report.

(c)
     There were no changes in our internal controls
over financial reporting identified with the evaluation thereof that occurred
during the period covered by this annual report that have materially affected,
or are reasonable likely to materially affect our internal control over
financial reporting

Item 16. [Reserved]

Item 16.A. Audit Committee Financial Expert

The
Board of Directors has determined that Ms. Orly Garti-Serroussi is an audit committee financial expert
and that she is independent under the applicable Securities and Exchange
Commission and NASDAQ Global Select Market rules.

Item 16.B. Code of Ethics

We
have adopted a Code of Business Conduct and Ethics for our employees, including
our chief executive officer and senior financial officers. The Code of Business
Conduct and Ethics was attached as Exhibit 11 to the Companys annual report on
Form 20-F for the fiscal year ended December 31, 2003, filed with the
Commission on May 17, 2004.

Item 16.C. Principal Accountant Fees and
Services

Kost,
Forer Gabbay & Kasierer, a member of Ernst & Young Global, or Ernst
& Young has served as our independent public accountants for each of the
fiscal years in the three-year period ended December 31, 2006, for which
audited financial statements appear in this annual report on Form 20-F.

-75-

---

---

The
following table presents the aggregate fees for professional services and other
services rendered by Kost, Forer Gabbay & Kasierer to Optibase in 2007 and
2006 (in thousands):

|                        |  |      |     |      |  |     | 
|----------------------- |  | ---- | --- | ---- |  | --- | 
|                        |  | 2006 |     | 2007 | 
|                        |  |      |     |      |  |     | 
|Audit-related
  fees(2) |  |      |    |      |  |    | 
|Tax fees (3)            |  |      |    |      |  | 20  | 
|All other
  fees(4)     |  |      | 1   |      |  |    | 
|Total                   |  |      | 103 |      |  | 115 | 

---

|    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|--- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|(1) | Audit fees
  consist of fees billed for the annual audit services engagement and other
  audit services, which are those services that only the external auditor can
  reasonably provide, and include the group audit; statutory audits; comfort
  letters and consents; attest services; and assistance with and review of
  documents filed with the SEC.                                                                                                                                                                                                                                                                                                                                                   
|(2) | Audit-related
  fees consist of fees billed for assurance and related services that are
  reasonably related to the performance of the audit or review of our financial
  statements or that are traditionally performed by the external auditor, and
  include consultations concerning financial accounting and reporting
  standards; internal control reviews of new systems, programs and projects;
  review of security controls and operational effectiveness of systems; review
  of plans and control for shared service centers, due diligence related to
  acquisitions; accounting assistance and audits in connection with proposed or
  completed acquisitions; and employee benefit plan audits.
|(3) | Tax fees
  include fees billed for tax compliance services, including the preparation of
  original and amended tax returns and claims for refund; tax consultations,
  such as assistance and representation in connection with tax audits and
  appeals, tax advice related to mergers and acquisitions, transfer pricing,
  and requests for rulings or technical advice from taxing authority; tax
  planning services; and expatriate tax planning and services.                                                                                                                                                                                                                                          
|(4) | All other
  fees include fees billed for training; forensic accounting; data security
  reviews; treasury control reviews and process improvement and advice; and
  environmental, sustainability and corporate social responsibility advisory
  services.                                                                                                                                                                                                                                                                                                                                                                                                                                                     

Audit Committee Pre-approval Policies and
Procedures

Optibases
audit committees main role is to assist the Board of Directors in fulfilling
its responsibility for oversight of the quality and integrity of the
accounting, auditing and reporting practices of the Company. The audit
committee oversees the appointment, compensation, and oversight of the public
accounting firm engaged to prepare or issue an audit report on the financial
statements of the Company. The audit committees specific responsibilities in
carrying out its oversight role include the approval of all audit and non-audit
services to be provided by the external auditor and quarterly review the firms
non-audit services and related fees. These services may include audit services,
audit-related services, tax services and other services, as described above. It
is the policy of our audit committee to approve in advance the particular
services or categories of services to be provided to the Company periodically.
Additional services may be pre-approved by the audit committee on an individual
basis during the year.

During
2007, none of audit-related fees, tax fees or other fees provided to us by
Kost, Forer Gabbay & Kasierer in Israel or by Ernst & Young in the
United States were approved by the audit committee pursuant to the de minimis
exception to the pre-approval requirement provided by paragraph (c)(7)(i)(C) of
Rule 2-01 of Regulation S-X.

Item 16.D. Exemption From the Listing
Standards for Audit Committee

Not
applicable.

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

Not
applicable.

Item
17. Financial Statements

Not
Applicable.

-76-

---

---

Part III

Item
18. Financial Statements

The
following our financial statements audited by Kost Forer Gabbay & Kasierer, a member
of Ernst & Young Global, together with the reports of Kost Forer Gabbay &
Kasierer, a member of Ernst & Young Global, and Scopus financial statements
audited by Brightman Almagor & Co., Certified Public Accountants, a member Firm of
Deloitte Touche Tohmatsu, together with the reports of Brightman Almagor & Co.,
Certified Public Accountants, a member Firm of Deloitte Touche Tohmatsu, for the fiscal
years ended December 31, 2006 and 2007, are filed as part of this annual report:

-77-

---

---

OPTIBASE LTD. AND ITS SUBSIDIARY

CONSOLIDATED FINANCIAL STATEMENTS

AS OF DECEMBER 31, 2007

U.S. DOLLARS IN THOUSANDS

INDEX

|                                                        |               
|------------------------------------------------------- | --------------
|                                                        | Page          
|                                                        |               
|                                                        |               
|Report of Independent Registered Public Accounting Firm | F  2         
|                                                        |               
|Consolidated Balance Sheets                             | F  3  F  4 
|                                                        |               
|Consolidated Statements of Operations                   | F  5         
|                                                        |               
|Statements of Changes in Shareholders Equity           | F  6         
|                                                        |               
|Consolidated Statements of Cash Flows                   | F  7  F  8 
|                                                        |               
|Notes to Consolidated Financial Statements              | F  9  F  41

---

---

|                             | 
|---------------------------- | 
|(ERNST & YOUNG LOGO)         | 
|                            
|Kost Forer Gabbay & Kasierer
|3
 Aminadav St.             
|Tel-Aviv
 67067, Israel     
|                            
|Tel: 972
 (3)6232525        
|Fax: 972(3)5622555          
|www.ey.com/il               

REPORT OF INDEPENDENT REGISTERED PUBLIC
ACCOUNTING FIRM

To the Board of Directors and Shareholders of

OPTIBASE LTD.

We
have audited the accompanying consolidated balance sheets of Optibase Ltd.
(the Company) and its subsidiary as of December 31, 2006 and 2007, 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,
2007. These financial statements and are the responsibility of the Companys
management. Our responsibility is to express an opinion on these financial
statements based on our audits. We did not audit the financial statements of
Scopus Video Networks Ltd. a 27% owned affiliate, for the year ended December
31, 2007, in which the Companys investments totaled $ 17,288 thousand as of
December 31, 2007, and the Companys equity in its losses for 2007 constitutes
$ 2,769 thousand. Commencing January 1, 2007, we also did not audit the
financial statements of V.Box Communication Ltd., an affiliate, for the year
ended December 31, 2007, in which the Companys investments totaled $ 0
thousand as of December 31, 2007, and the Companys related impairment losses
for the year 2007 constitutes $ 325 thousand. Those statements were audited by
other auditors whose reports have been furnished to us and our opinion, insofar
as it relates to amounts emanating from the financial statements of Scopus
Video Networks Ltd. and V.Box Communication Ltd. for the year ended December
31, 2007, is based solely on the reports of the other auditors.

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

In
our opinion, based on our audits and the reports of the other auditors, the
consolidated financial statements referred to above, present fairly, in all
material respects, the consolidated financial position of the Company and its
subsidiary as of December 31, 2006 and 2007, and the consolidated results of
their operations and their cash flows for each of the three years in the period
ended December 31, 2007, in conformity with accounting principles generally
accepted in the United States.

As
discussed in Note 2 to the consolidated financial statements, in 2006, the
Company adopted Financial Accounting Standard Board Statement No. 123(R),
Share-Based Payment.

|                 |                                                             
|---------------- | ------------------------------------------------------------
|Tel-Aviv, Israel | /s/ KOST FORER GABBAY & KASIERERKOST FORER GABBAY & KASIERER
|June 26,
 2008   | A Member of Ernst & Young Global                            

F  2

---

---

OPTIBASE LTD. AND ITS SUBSIDIARY

|                           
|---------------------------
|CONSOLIDATED BALANCE SHEETS
|                           
|U.S. dollars in thousands  

|                                                                                                                                       |  |              |        |      |   |        | 
|-------------------------------------------------------------------------------------------------------------------------------------- |  | ------------ | ------ | ---- | - | ------ | 
|                                                                                                                                       |  | December 31, |       
|                                                                                                                                       |  |              |       
|                                                                                                                                       |  | 2006         |        | 2007 |  
|                                                                                                                                       |  |              |        |      |  
|                                                                                                                                       |  |              |        |      |   |        | 
|ASSETS                                                                                                                                 |  |              |        |      |   |        | 
|                                                                                                                                       |  |              |        |      |   |        | 
|CURRENT ASSETS:                                                                                                                        |  |              |        |      |   |        | 
|Cash and cash equivalents                                                                                                              |  | $            | 2,316  |      | $ | 10,547 | 
|                                                                                                                                       |  |              |        |      |   |        | 
|Marketable securities (Note
3)                                                                                                         |  |              | 42,015 |      |   | 8,474  | 
|Trade receivables (net of allowance for
 doubtful accounts of $ 313 and $ 367 at December 31, 2006 and 2007,
 respectively) (Note 16b) |  |              | 4,544  |      |   | 4,053  | 
|Deferred costs                                                                                                                         |  |              | 500    |      |   | -      | 
|Other accounts receivable and prepaid
 expenses (Note 4)                                                                               |  |              | 772    |      |   | 1,487  | 
|Inventories (Note 5)                                                                                                                   |  |              | 4,147  |      |   | 5,321  | 
|Assets related to discontinued
operations                                                                                              |  |              | 157    |      |   | 43     | 
|                                                                                                                                       |  |              |        |      |   |        | 
|                                                                                                                                       |  |              |        |      |   |        | 
|Total current assets                                                                                                                   |  |              | 54,451 |      |   | 29,925 | 
|                                                                                                                                       |  |              |        |      |   |        | 
|                                                                                                                                       |  |              |        |      |   |        | 
|LONG-TERM INVESTMENTS:                                                                                                                 |  |              |        |      |   |        | 
|Long-term lease deposits (Note
10a)                                                                                                    |  |              | 313    |      |   | 318    | 
|Marketable securities (Note
3)                                                                                                         |  |              | 2,207  |      |   | -      | 
|Severance pay fund                                                                                                                     |  |              | 1,603  |      |   | 2,010  | 
|Investments in companies (Note
6)                                                                                                      |  |              | 700    |      |   | 17,988 | 
|                                                                                                                                       |  |              |        |      |   |        | 
|                                                                                                                                       |  |              |        |      |   |        | 
|Total long-term investments                                                                                                            |  |              | 4,823  |      |   | 20,316 | 
|                                                                                                                                       |  |              |        |      |   |        | 
|                                                                                                                                       |  |              |        |      |   |        | 
|PROPERTY AND EQUIPMENT, NET (Note 7)                                                                                                   |  |              | 1,700  |      |   | 1,691  | 
|                                                                                                                                       |  |              |        |      |   |        | 
|                                                                                                                                       |  |              |        |      |   |        | 
|Total assets                                                                                                                           |  | $            | 60,974 |      | $ | 51,932 | 
|                                                                                                                                       |  |              |        |      |   |        | 

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

F  3

---

---

|                                                           
|-----------------------------------------------------------
|OPTIBASE LTD. AND ITS SUBSIDIARY                           
|                                                           
|CONSOLIDATED BALANCE SHEETS                                
|                                                           
|U.S. dollars
in thousands (except share and per share data)

|                                                                                                                                                                                                                                                                                        |  |              |         |      |   |         |  
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- |  | ------------ | ------- | ---- | - | ------- | -
|                                                                                                                                                                                                                                                                                        |  | December 31, |        
|                                                                                                                                                                                                                                                                                        |  |              |        
|                                                                                                                                                                                                                                                                                        |  | 2006         |         | 2007 |  
|                                                                                                                                                                                                                                                                                        |  |              |         |      |  
|LIABILITIES AND SHAREHOLDERS EQUITY                                                                                                                                                                                                                                                    |  |              |         |      |   |         |  
|                                                                                                                                                                                                                                                                                        |  |              |         |      |   |         |  
|CURRENT
 LIABILITIES:                                                                                                                                                                                                                                                                   |  |              |         |      |   |         |  
|Short-term bank credit line and loans (Note
 9)                                                                                                                                                                                                                                         |  | $            | 3,636   |      | $ | 634     |  
|Trade payables                                                                                                                                                                                                                                                                          |  |              | 1,763   |      |   | 2,753   |  
|Deferred revenues                                                                                                                                                                                                                                                                       |  |              | 1,703   |      |   | 390     |  
|Other accounts payable and accrued expenses
 (Note 8)                                                                                                                                                                                                                                   |  |              | 6,852   |      |   | 5,888   |  
|Liabilities related to discontinued
operations                                                                                                                                                                                                                                          |  |              | 155     |      |   | 162     |  
|                                                                                                                                                                                                                                                                                        |  |              |         |      |   |         |  
|                                                                                                                                                                                                                                                                                        |  |              |         |      |   |         |  
|Total
 current liabilities                                                                                                                                                                                                                                                              |  |              | 14,109  |      |   | 9,827   |  
|                                                                                                                                                                                                                                                                                        |  |              |         |      |   |         |  
|                                                                                                                                                                                                                                                                                        |  |              |         |      |   |         |  
|ACCRUED
 SEVERANCE PAY                                                                                                                                                                                                                                                                  |  |              | 2,371   |      |   | 2,941   |  
|                                                                                                                                                                                                                                                                                        |  |              |         |      |   |         |  
|                                                                                                                                                                                                                                                                                        |  |              |         |      |   |         |  
|COMMITMENTS
 AND CONTINGENT LIABILITIES (Note 10)                                                                                                                                                                                                                                       |  |              |         |      |   |         |  
|                                                                                                                                                                                                                                                                                        |  |              |         |      |   |         |  
|SHAREHOLDERS
 EQUITY (Note 13):                                                                                                                                                                                                                                                        |  |              |         |      |   |         |  
|Share capital -                                                                                                                                                                                                                                                                         |  |              |         |      |   |         |  
|Ordinary Shares of NIS 0.13 par value - Authorized: 19,230,800 shares at December 31, 2006 and 2007; Issued:
 14,004,888 and 14,097,380 shares at December 31, 2006 and 2007, respectively;
 Outstanding: 13,473,868 and 13,641,257 shares at December 31, 2006 and
 2007, respectively |  |              | 539     |      |   | 541     |  
|Additional paid-in capital                                                                                                                                                                                                                                                              |  |              | 119,181 |      |   | 120,165 |  
|Treasury shares (531,023 and 454,123 shares
 at December 31, 2006 and 2007, respectively)                                                                                                                                                                                               |  |              | (2,278  | )    |   | (1,778  | )
|Accumulated other comprehensive income
 (loss)                                                                                                                                                                                                                                          |  |              | (339    | )    |   | 266     |  
|Accumulated deficit                                                                                                                                                                                                                                                                     |  |              | (72,609 | )    |   | (80,030 | )
|                                                                                                                                                                                                                                                                                        |  |              |         |      |   |         |  
|                                                                                                                                                                                                                                                                                        |  |              |         |      |   |         |  
|Total
 shareholders equity                                                                                                                                                                                                                                                             |  |              | 44,494  |      |   | 39,164  |  
|                                                                                                                                                                                                                                                                                        |  |              |         |      |   |         |  
|                                                                                                                                                                                                                                                                                        |  |              |         |      |   |         |  
|Total
 liabilities and shareholders equity                                                                                                                                                                                                                                             |  | $            | 60,974  |      | $ | 51,932  |  
|                                                                                                                                                                                                                                                                                        |  |              |         |      |   |         |  

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

|                        |  |                                                                                          |  |                         |  |                        
|----------------------- |  | ---------------------------------------------------------------------------------------- |  | ----------------------- |  | -----------------------
|June 26, 2008           |  | /s/ Tom Wyler                                                                            |  | /s/ Orli Garti-Seroussi |  | /s/ Amir Philips       
|                        |  |                                                                                          |  |                         |  |                        
|Date of approval of the |  | Tom
 Wyler                                                                               |  | Orli
 Garti-Seroussi    |  | Amir
 Philips          
|financial statements    |  | President,
 Chief Executive
 Officer and Executive
 Chairman of the Board of
 Directors. |  | Director                |  | Chief Financial Officer

F  4

---

---

|                                                           
|-----------------------------------------------------------
|OPTIBASE LTD. AND ITS SUBSIDIARY                           
|                                                           
|CONSOLIDATED STATEMENTS OF OPERATIONS                      
|                                                           
|U.S. dollars
in thousands (except share and per share data)

|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|-------------------------------------------------------------------------------------------------------- |  | ----------------------- | ------ | ---- | - | ------ | - | - | ------ | -
|                                                                                                         |  | Year ended December 31, |       
|                                                                                                         |  |                         |       
|                                                                                                         |  | 2005                    |        | 2006 |   | 2007   |  
|                                                                                                         |  |                         |        |      |   |        |  
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|Revenues (Notes 14 and 15b)                                                                              |  | $                       | 19,343 |      | $ | 17,977 |   | $ | 22,977 |  
|Cost of revenues (Note 15d)                                                                              |  |                         | 7,808  |      |   | 7,716  |   |   | 11,387 |  
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|Gross profit                                                                                             |  |                         | 11,535 |      |   | 10,261 |   |   | 11,590 |  
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|Operating expenses:                                                                                      |  |                         |        |      |   |        |   |   |        |  
|Research and development, net (Note 16a)                                                                 |  |                         | 4,001  |      |   | 4,208  |   |   | 5,362  |  
|Selling and marketing                                                                                    |  |                         | 8,798  |      |   | 8,288  |   |   | 7,895  |  
|General and administrative                                                                               |  |                         | 1,892  |      |   | 2,134  |   |   | 2,276  |  
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|Total operating
 expenses                                                                                |  |                         | 14,691 |      |   | 14,630 |   |   | 15,533 |  
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|Operating loss                                                                                           |  |                         | (3,156 | )    |   | (4,369 | ) |   | (3,943 | )
|Other expenses, net (Note 11)                                                                            |  |                         | (622   | )    |   | (171   | ) |   | (327   | )
|Financial income (expenses), net (Note 16c)                                                              |  |                         | 1,583  |      |   | 1,405  |   |   | (31    | )
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|Loss before provision for
 income tax                                                                    |  |                         | (2,195 | )    |   | (3,135 | ) |   | (4,301 | )
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|Provision for income taxes                                                                               |  |                         | -      |      |   | -      |   |   | (73    | )
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|Net loss after income tax                                                                                |  |                         | (2,195 | )    |   | (3,135 | ) |   | (4,374 | )
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|Equity in losses of affiliated companies                                                                 |  |                         | -      |      |   | -      |   |   | (2,769 | )
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|Net loss from continuing operations                                                                      |  |                         | (2,195 | )    |   | (3,135 | ) |   | (7,143 | )
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|Income (loss) from discontinued operations
 - Media 100                                                  |  |                         | (1,250 | )    |   | 15     |   |   | (30    | )
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|Net loss                                                                                                 |  | $                       | (3,445 | )    | $ | (3,120 | ) | $ | (7,173 | )
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|Basic and diluted loss per share from
 continuing operations                                             |  | $                       | (0.17  | )    | $ | (0.23  | ) | $ | (0.53  | )
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|Basic income (loss) per share from
 discontinued operations                                              |  | $                       | (0.09  | )    | $ | 0.00   |   | $ | (0.00  | )
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|Diluted income (loss) per share from
 discontinued operations                                            |  | $                       | (0.09  | )    | $ | 0.00   |   | $ | (0.00  | )
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|Basic and diluted loss per share                                                                         |  | $                       | (0.26  | )    | $ | (0.23  | ) | $ | (0.53  | )
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  
|Weighted average number of shares used in
 computing basic and diluted net loss per share (in thousands) |  |                         | 13,188 |      |   | 13,431 |   |   | 13,602 |  
|                                                                                                         |  |                         |        |      |   |        |   |   |        |  

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

F  5

---

---

|                                              
|----------------------------------------------
|OPTIBASE LTD. AND ITS SUBSIDIARY              
|                                              
|STATEMENTS
 OF CHANGES IN SHAREHOLDERS EQUITY
|                                              
|U.S.
 dollars in thousands                    

|                                                                                        |  |                |     |                          |   |                |   |                                                  |        |                    |   |                        |   |                          |         |   |   |        |   |   |        |  
|--------------------------------------------------------------------------------------- |  | -------------- | --- | ------------------------ | - | -------------- | - | ------------------------------------------------ | ------ | ------------------ | - | ---------------------- | - | ------------------------ | ------- | - | - | ------ | - | - | ------ | -
|                                                                                        |  | Ordinaryshares |     | Additionalpaid-incapital |   | Treasuryshares |   | Accumulated
 other
 comprehensive
 income (loss) |        | AccumulatedDeficit |   | Totalcomprehensiveloss |   | Totalshareholdersequity |        
|                                                                                        |  |                |     |                          |   |                |   |                                                  |        |                    |   |                        |   |                          |        
|                                                                                        |  |                |     |                          |   |                |   |                                                  |        |                    |   |                        |   |                          |         |   |   |        |   |   |        |  
|Balance as of January 1, 2005                                                           |  | $              | 528 |                          | $ | 117,470        |   | $                                                | (2,278 | )                  | $ | 1,151                  |   | $                        | (66,044 | ) |   |        |   | $ | 50,827 |  
|                                                                                        |  |                |     |                          |   |                |   |                                                  |        |                    |   |                        |   |                          |         |   |   |        |   |   |        |  
|Exercise of employees stock options                                                     |  |                | 5   |                          |   | 432            |   |                                                  | -      |                    |   | -                      |   |                          | -       |   |   |        |   |   | 437    |  
|Compensation related to warrants granted to consultant                                  |  |                | -   |                          |   | 73             |   |                                                  | -      |                    |   | -                      |   |                          | -       |   |   |        |   |   | 73     |  
|Other comprehensive loss:                                                               |  |                |     |                          |   |                |   |                                                  |        |                    |   |                        |   |                          |         |   |   |        |   |   |        |  
|Unrealized loss on available-for-sale marketable
securities, net                        |  |                | -   |                          |   | -              |   |                                                  | -      |                    |   | (3,056                 | ) |                          | -       |   | $ | (3,056 | ) |   | (3,056 | )
|Net loss                                                                                |  |                | -   |                          |   | -              |   |                                                  | -      |                    |   | -                      |   |                          | (3,445  | ) |   | (3,445 | ) |   | (3,445 | )
|                                                                                        |  |                |     |                          |   |                |   |                                                  |        |                    |   |                        |   |                          |         |   |   |        |   |   |        |  
|Total comprehensive loss                                                                |  |                |     |                          |   |                |   |                                                  |        |                    |   |                        |   |                          |         |   | $ | (6,501 | ) |   |        |  
|                                                                                        |  |                |     |                          |   |                |   |                                                  |        |                    |   |                        |   |                          |         |   |   |        |   |   |        |  
|                                                                                        |  |                |     |                          |   |                |   |                                                  |        |                    |   |                        |   |                          |         |   |   |        |   |   |        |  
|Balance as of December 31, 2005                                                         |  |                | 533 |                          |   | 117,975        |   |                                                  | (2,278 | )                  |   | (1,905                 | ) |                          | (69,489 | ) |   |        |   |   | 44,836 |  
|                                                                                        |  |                |     |                          |   |                |   |                                                  |        |                    |   |                        |   |                          |         |   |   |        |   |   |        |  
|Exercise of employees stock options                                                     |  |                | 6   |                          |   | 492            |   |                                                  | -      |                    |   | -                      |   |                          | -       |   |   |        |   |   | 498    |  
|Stock based compensation related to options and restricted shares
 granted to employees |  |                | -   |                          |   | 714            |   |                                                  | -      |                    |   | -                      |   |                          | -       |   |   |        |   |   | 714    |  
|Other comprehensive loss:                                                               |  |                |     |                          |   |                |   |                                                  |        |                    |   |                        |   |                          |         |   |   |        |   |   |        |  
|Unrealized gain on available-for-sale marketable
securities, net                        |  |                | -   |                          |   | -              |   |                                                  | -      |                    |   | 1,566                  |   |                          | -       |   | $ | 1,566  |   |   | 1,566  |  
|Net loss                                                                                |  |                | -   |                          |   | -              |   |                                                  | -      |                    |   | -                      |   |                          | (3,120  | ) |   | (3,120 | ) |   | (3,120 | )
|                                                                                        |  |                |     |                          |   |                |   |                                                  |        |                    |   |                        |   |                          |         |   |   |        |   |   |        |  
|Total comprehensive loss                                                                |  |                |     |                          |   |                |   |                                                  |        |                    |   |                        |   |                          |         |   | $ | (1,554 | ) |   |        |  
|                                                                                        |  |                |     |                          |   |                |   |                                                  |        |                    |   |                        |   |                          |         |   |   |        |   |   |        |  
|                                                                                        |  |                |     |                          |   |                |   |                                                  |        |                    |   |                        |   |                          |         |   |   |        |   |   |        |  
|Balance as of December 31, 2006                                                         |  |                | 539 |                          |   | 119,181        |   |                                                  | (2,278 | )                  |   | (339                   | ) |                          | (72,609 | ) |   |        |   |   | 44,494 |  
|                                                                                        |  |                |     |                          |   |                |   |                                                  |        |                    |   |                        |   |                          |         |   |   |        |   |   |        |  
|Exercise of employees stock options                                                     |  |                | 2   |                          |   | 223            |   |                                                  |        |                    |   |                        |   |                          |         |   |   |        |   |   | 225    |  
|Stock based compensation related to options and non-vested shares
 granted to employees |  |                |     |                          |   | 1,013          |   |                                                  |        |                    |   |                        |   |                          |         |   |   |        |   |   | 1,013  |  
|Employees non-vested shares that became vested                                          |  |                |     |                          |   | (252           | ) |                                                  | 500    |                    |   |                        |   |                          | (248    | ) |   |        |   |   | -      |  
|Other comprehensive loss:                                                               |  |                |     |                          |   |                |   |                                                  |        |                    |   |                        |   |                          |         |   |   |        |   |   |        |  
|Unrealized gain on available-for-sale marketable
securities, net                        |  |                |     |                          |   |                |   |                                                  |        |                    |   | 605                    |   |                          |         |   | $ | 605    |   |   | 605    |  
|Net loss                                                                                |  |                |     |                          |   |                |   |                                                  |        |                    |   |                        |   |                          | (7,173  | ) |   | (7,173 | ) |   | (7,173 | )
|                                                                                        |  |                |     |                          |   |                |   |                                                  |        |                    |   |                        |   |                          |         |   |   |        |   |   |        |  
|Total comprehensive loss                                                                |  |                |     |                          |   |                |   |                                                  |        |                    |   |                        |   |                          |         |   | $ | (6,568 | ) |   |        |  
|                                                                                        |  |                |     |                          |   |                |   |                                                  |        |                    |   |                        |   |                          |         |   |   |        |   |   |        |  
|                                                                                        |  |                |     |                          |   |                |   |                                                  |        |                    |   |                        |   |                          |         |   |   |        |   |   |        |  
|Balance as of December 31, 2007                                                         |  | $              | 541 |                          | $ | 120,165        |   | $                                                | (1,778 | )                  | $ | 266                    |   | $                        | (80,030 | ) |   |        |   | $ | 39,164 |  
|                                                                                        |  |                |     |                          |   |                |   |                                                  |        |                    |   |                        |   |                          |         |   |   |        |   |   |        |  

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

F  6

---

---

OPTIBASE LTD. AND ITS SUBSIDIARY

|                                       
|---------------------------------------
|CONSOLIDATED
  STATEMENTS OF CASH FLOWS
|                                       
|U.S.
  dollars in thousands            

|                                                                                                        |  |                         |         |      |   |        |   |   |         |  
|------------------------------------------------------------------------------------------------------- |  | ----------------------- | ------- | ---- | - | ------ | - | - | ------- | -
|                                                                                                        |  | Year ended December 31, |        
|                                                                                                        |  |                         |        
|                                                                                                        |  | 2005                    |         | 2006 |   | 2007   |  
|                                                                                                        |  |                         |         |      |   |        |  
|Cash flows from operating activities:                                                                   |  |                         |         |      |   |        |   |   |         |  
|Net loss                                                                                                |  | $                       | (3,445  | )    | $ | (3,120 | ) | $ | (7,173  | )
|Adjustments required to reconcile net loss
  to net cash used in operating activities:                  |  |                         |         |      |   |        |   |   |         |  
|Depreciation and amortization                                                                           |  |                         | 1,090   |      |   | 1,106  |   |   | 1,244   |  
|Impairment losses of V.Box                                                                              |  |                         | 622     |      |   | 173    |   |   | 325     |  
|Equity in loss of Scopus                                                                                |  |                         | -       |      |   | -      |   |   | 2,769   |  
|Accrued interest and amortization of
  premium and discount on available-for-sale marketable securities |  |                         | 1,001   |      |   | (594   | ) |   | (192    | )
|Realized loss (gain) on sale of
  available-for-sale marketable securities                              |  |                         | (36     | )    |   | 32     |   |   | (210    | )
|Impairment of available-for-sale marketable
  securities                                                |  |                         | 430     |      |   | -      |   |   | 582     |  
|Loss (gain) on sale of property and
  equipment                                                         |  |                         | -       |      |   | (2     | ) |   | 2       |  
|Accrued severance pay, net                                                                              |  |                         | (24     | )    |   | 16     |   |   | 163     |  
|Compensation related to warrants granted to
  consultants                                               |  |                         | 73      |      |   | -      |   |   |         |  
|Compensation related to options and
  restricted shares granted to employees and directors              |  |                         | -       |      |   | 714    |   |   | 1,013   |  
|Decrease (increase) in trade receivables,
  net                                                         |  |                         | 38      |      |   | (2,230 | ) |   | 491     |  
|Decrease (increase) in other accounts
  receivable and prepaid expenses                                 |  |                         | 116     |      |   | 579    |   |   | (715    | )
|Increase in inventories                                                                                 |  |                         | (575    | )    |   | (629   | ) |   | (1,507  | )
|Increase (decrease) in trade payables                                                                   |  |                         | 107     |      |   | (613   | ) |   | 990     |  
|Decrease (increase) in deferred costs                                                                   |  |                         | -       |      |   | (500   | ) |   | 500     |  
|Increase (decrease) in deferred revenues                                                                |  |                         | 355     |      |   | 972    |   |   | (1,313  | )
|Increase (decrease) in accrued expenses and
  other accounts payable                                    |  |                         | (512    | )    |   | 288    |   |   | (964    | )
|Net cash provided by (used in) discontinued
  operations                                                |  |                         | (1,805  | )    |   | 87     |   |   | 121     |  
|                                                                                                        |  |                         |         |      |   |        |   |   |         |  
|                                                                                                        |  |                         |         |      |   |        |   |   |         |  
|Net cash used in operating activities                                                                   |  |                         | (2,565  | )    |   | (3,721 | ) |   | (3,874  | )
|                                                                                                        |  |                         |         |      |   |        |   |   |         |  
|                                                                                                        |  |                         |         |      |   |        |   |   |         |  
|Cash flows from investing activities:                                                                   |  |                         |         |      |   |        |   |   |         |  
|Proceeds from sale of property and
  equipment                                                          |  |                         | -       |      |   | 2      |   |   | 41      |  
|Purchase of property and equipment                                                                      |  |                         | (833    | )    |   | (716   | ) |   | (945    | )
|Investments in available-for-sale
  marketable securities                                               |  |                         | (17,000 | )    |   | -      |   |   | -       |  
|Proceeds from redemption of
  available-for-sale marketable securities                                  |  |                         | 15,000  |      |   | 2,150  |   |   | 36,173  |  
|Investment in long-term lease deposits                                                                  |  |                         | (19     | )    |   | (55    | ) |   | (5      | )
|Investment in companies                                                                                 |  |                         | (600    | )    |   | (175   | ) |   | (20,382 | )
|Net cash provided by (used in) discontinued
  operations                                                |  |                         | 995     |      |   | -      |   |   | -       |  
|                                                                                                        |  |                         |         |      |   |        |   |   |         |  
|                                                                                                       
|Net cash provided by (used in) investing
  activities                                                   |  |                         | (2,457  | )    |   | 1,206  |   |   | 14,882  |  
|                                                                                                        |  |                         |         |      |   |        |   |   |         |  
|Cash flows from financing activities:                                                                   |  |                         |         |      |   |        |   |   |         |  
|Short-term bank credit                                                                                  |  |                         | 719     |      |   | 2,414  |   |   | (3,002  | )
|Proceeds from exercise of stock options                                                                 |  |                         | 437     |      |   | 498    |   |   | 225     |  
|                                                                                                        |  |                         |         |      |   |        |   |   |         |  
|Net cash provided by (used in) financing
  activities                                                   |  |                         | 1,156   |      |   | 2,912  |   |   | (2,777  | )
|                                                                                                        |  |                         |         |      |   |        |   |   |         |  
|Increase (decrease) in cash and cash
  equivalents                                                      |  |                         | (3,866  | )    |   | 397    |   |   | 8,231   |  
|Cash and cash equivalents at the beginning
  of the year                                                |  |                         | 5,785   |      |   | 1,919  |   |   | 2,316   |  
|                                                                                                        |  |                         |         |      |   |        |   |   |         |  
|                                                                                                       
|Cash and cash equivalents at the end of the
  year                                                      |  | $                       | 1,919   |      | $ | 2,316  |   | $ | 10,547  |  
|                                                                                                        |  |                         |         |      |   |        |   |   |         |  

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

F  7

---

---

OPTIBASE LTD. AND ITS SUBSIDIARY

|                                       
|---------------------------------------
|CONSOLIDATED
  STATEMENTS OF CASH FLOWS
|                                       
|U.S.
  dollars in thousands            

|                                                              |                         |      |     |      |   |      |  |   |     | 
|------------------------------------------------------------- | ----------------------- | ---- | --- | ---- | - | ---- |  | - | --- | 
|                                                              | Year ended December 31, |     
|                                                              |                         |      |    
|                                                              |                         | 2005 |     | 2006 |   | 2007 | 
|                                                              |                         |      |     |      |   |      |  |   |    
|Supplemental disclosure of cash flow activities:              |                         |      |     |      |   |      |  |   |     | 
|                                                              |                         |      |     |      |   |      |  |   |     | 
|(a)        Non-cash
  transactions:                           |                         |      |     |      |   |      |  |   |     | 
|                                                              |                         |      |     |      |   |      |  |   |     | 
|Reclassification
  of inventories into property and equipment |                         | $    | 418 |      | $ | 585  |  | $ | 333 | 
|                                                              |                         |      |     |      |   |      |  |   |     | 
|                                                              |                         |      |     |      |   |      |  |   |     | 
|(b)        Cash
  paid during the year for:                   |                         |      |     |      |   |      |  |   |     | 
|                                                              |                         |      |     |      |   |      |  |   |     | 
|Interest                                                      |                         | $    | 205 |      | $ | 177  |  | $ | 386 | 
|                                                              |                         |      |     |      |   |      |  |   |     | 

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

F  8

---

---

OPTIBASE LTD. AND ITS SUBSIDIARY

|                                             |        
|-------------------------------------------- | -------
|NOTES TO
  CONSOLIDATED FINANCIAL STATEMENTS
|                                            
|U.S.
  dollars in thousands                 
|                                            
|NOTE 1:                                     | GENERAL

| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| | -- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | a. | Optibase Ltd. (the
  Company) was incorporated and commenced operations in 1990.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| |    | The Company has one
  wholly-owned subsidiary: Optibase Inc. in the United States which was
  incorporated in 1991.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| |    | The Company and its
  subsidiary provide high quality equipment for a wide range of professional
  video applications in the Broadband IPTV, Broadcast, Government, Enterprise
  and Post-production markets, which performed through the operation of two
  product lines - Video Technologies and IPTV                                                                                                                                                                                                                                                                                                                                                                         
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| |    | The Company and its
  subsidiary sell their products worldwide, directly and through distributors,
  Value Added Resellers (VARs), system integrators and Original Equipment
  Manufacturers (OEMs), all of which are considered end-customers from the perspective
  of the Company and its subsidiary.                                                                                                                                                                                                                                                                                                                                                                     
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| |    | The majority of the
  Company and its subsidiary sales are made in North America, Europe and the
  Far East (see Note 14a).                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| | b. | On March 18, 2004, the
  Company and Media 100 Inc. a U.S.-based provider of professional video
  editing and compositing systems (Media 100) entered into an Assets Purchase
  Agreement (the Agreement). Under the terms of the Agreement, the Company
  acquired certain assets and liabilities assumed of Media 100 in consideration
  of $2,500 in cash. In addition, the Company incurred costs totaling $401, in
  connection with the transaction. The closing date was June 1, 2004. The
  acquisition was accounted for in accordance with Statement of Financial
  Accounting Standard No. 141, Business Combination, using the purchase
  method of accounting.
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| | c. | Restructuring and
  discontinued operations:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| |    | In connection with a
  restructuring made during the forth quarter of 2004, the Company recorded a
  restructuring charge of approximately $84, during the first quarter of 2005,
  related to employee termination expenses.                                                                                                                                                                                                                                                                                                                                                                                                                                                    
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| |    | In June 2005, the Company
  signed an agreement with Artel Software Corp. (Boris FX), a developer of
  integrated effects technology for video and film production, according to
  which, the Company sold certain software technology known as the Final Effect
  Complete, in consideration of $75, net. In September 2005, the Company signed
  an agreement with Acoustic Technologies LLC (the Purchaser), according to
  which the Company transferred certain Patent Rights of Media 100 to the
  Purchaser in consideration of $900, net. In respect of these two sale
  transactions, the Company has recorded other income in the amount of $975.                  
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| |    | In September 2005, the
  Company entered into an agreement with Boris FX for the sale of its Digital
  non-linear editing product line operations, including all services, warranty
  and maintenance obligations, in consideration of $20, net. Under the terms of
  the agreement, Boris FX is obligated to pay royalties from future sales of
  products and services up to $2,000, the Company agreed to make its facilities
  available to Boris FX for a period of two years.                                                                                                                                                                                              

F  9

---

---

OPTIBASE LTD. AND ITS SUBSIDIARY

|                                            
|--------------------------------------------
|NOTES TO
  CONSOLIDATED FINANCIAL STATEMENTS
|                                            
|U.S.
  dollars in thousands                 

|            |                   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|----------- | ----------------- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|NOTE 1:    | GENERAL
  (Cont.)
|            |                   |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|            |                   | In respect with the sale
  of the Digital non-linear editing product line, the Company recorded losses
  in the amount of $60. In connection with the sale, the Company recorded
  additional restructuring charges of approximately $125, in September 2005,
  related to future rent obligations for the facilities, net of expected
  sublease income, in accordance with Statement of Financial Accounting
  Standard No. 146, Accounting for Costs Associated with Exit or Disposal
  Activities (SFAS No. 146). The Company has recorded the sublease payment
  as a reduction of the restructuring accrual. The Companys lease payment
  under the lease agreement ended at December 31, 2007.
|            |                   | The following table
  details the components of the restructuring charges and the remaining reserve
  balances as of December 31, 2007:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   

|                           |  |                    |     |          |   |                                  |  |   |   |  |   |   | 
|-------------------------- |  | ------------------ | --- | -------- | - | -------------------------------- |  | - | - |  | - | - | 
|                           |  | Original
  accrual |     | Utilized |   | Balance at
  December 31,
  2007 | 
|                          
|Cash                       |  | Non-cash          
|                           |  |                    |     |          |   |                                  |  |   |   |  |   |   | 
|                          
|Facility lease termination |  | $                  | 125 |          | $ | 125                              |  | $ | - |  | $ | - | 
|Termination benefits       |  |                    | 84  |          |   | 84                               |  |   | - |  |   | - | 
|                           |  |                    |     |          |   |                                  |  |   |   |  |   |   | 
|                          
|                           |  | $                  | 209 |          | $ | 209                              |  | $ | - |  | $ | - | 
|                           |  |                    |     |          |   |                                  |  |   |   |  |   |   | 

| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
| | -- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |    | During the forth quarter
  of 2006, the Company determined that the level of activity and cash flow
  generated from the disposed product line are no longer significant and as
  such reassessed the classification of the Digital non-linear editing product
  line, and decided that it is a discontinued operation, in accordance with
  SFAS 144 and EITF 03-13, Applying the Condition in Paragraph 42 of FAS 144
  in Determining Whether to Report Discontinued Operations.     
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
| |    | Accordingly, the results
  of operations including revenues, operating expenses and other income and
  expenses of the Digital non-linear editing product line for 2005, 2006 and
  2007 have been reclassified in the accompanying statements of operations as
  discontinued operations. The Companys balance sheets at December 31, 2006
  and 2007 reflect the net liabilities of the digital non-linear product line
  as liabilities and assets related to discontinued operations.
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
| | d. | Investment in Scopus:                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
| |    | During 2007, the Company
  purchased 3,725,223 ordinary shares of Scopus Video Networks Ltd. (Scopus),
  for a total consideration of approximately $20,057. Please refer to Note 6c
  for further details.                                                                                                                                                                                                                                                                             
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
| |    | In December 2007, the
  Company entered into share purchase agreements with certain shareholders of
  Scopus, to purchase in aggregate additional 1,380,000 ordinary shares of
  Scopus, bringing its aggregated investment to approximately 37% of Scopus
  outstanding issued share capital, for an aggregate consideration of
  approximately $8,556. Following the completion of the condition to the
  closing, the transaction was executed in January 2008.                        

F  10

---

---

|                                           |                                 
|------------------------------------------ | --------------------------------
|                                           | OPTIBASE LTD. AND ITS SUBSIDIARY
|                                           |                                 
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS |                                 
|                                           |                                 
|U.S. dollars in thousands                  |                                 

|            |                                                                                                                                                            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|----------- | ---------------------------------------------------------------------------------------------------------------------------------------------------------- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|NOTE 2:    | SIGNIFICANT ACCOUNTING POLICIES                                                                                                                           
|            |                                                                                                                                                            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|            | The
 consolidated financial statements have been prepared in accordance with
 accounting principles generally accepted in the United States (U.S. GAAP).
|            |                                                                                                                                                            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|            | a.                                                                                                                                                         | Use of
 estimates:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|            |                                                                                                                                                            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|            |                                                                                                                                                            | The
 preparation of financial statements in conformity with generally accepted
 accounting principles requires management to make estimates and assumptions
 that affect the amounts reported in the financial statements and accompanying
 notes. Actual results could differ from those estimates.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|            |                                                                                                                                                            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|            | b.                                                                                                                                                         | Financial
 statements in U.S. dollars:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|            |                                                                                                                                                            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|            |                                                                                                                                                            | A majority
 of the revenues of the Company and its subsidiary is generated in United
 States dollars (dollars). In addition, a substantial portion of their costs
 is incurred or determined in dollars. The Companys management believes that
 the dollar is the currency of the primary economic environment in which the Company
 and its subsidiary operate. Thus the dollar is their functional and reporting
 currency. Accordingly, monetary accounts maintained in currencies other than
 the dollar are remeasured into U.S. dollars, in accordance with Statement of
 Financial Accounting Standard No. 52, Foreign Currency Translation (SFAS
 No. 52). All transaction gains and losses of the remeasured monetary balance
 sheet items are reflected in the statements of operations as financial income
 or expenses, as appropriate.
|            |                                                                                                                                                            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|            | c.                                                                                                                                                         | Principles
 of consolidation:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|            |                                                                                                                                                            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|            |                                                                                                                                                            | The
 consolidated financial statements include the accounts of the Company and its
 subsidiary. Intercompany transactions and balances, including profits from
 intercompany sales not yet realized outside of the Group, have been
 eliminated upon consolidation.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|            |                                                                                                                                                            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|            | d.                                                                                                                                                         | Cash
 equivalents:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|            |                                                                                                                                                            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|            |                                                                                                                                                            | Cash
 equivalents include short-term, highly liquid investments that are readily
 convertible to cash, with original maturities of three months or less.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|            |                                                                                                                                                            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|            | e.                                                                                                                                                         | Marketable
 securities:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|            |                                                                                                                                                            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|            |                                                                                                                                                            | The Company
 and its subsidiary accounts for its investments in marketable securities in
 accordance with Statement of Financial Accounting Standard No. 115,
 Accounting for Certain Investments in Debt and Equity Securities (SFAS
 115). Management determines the appropriate classification of its
 investments in marketable securities at the time of purchase, and reevaluates
 such determinations at each balance sheet date.                                                                                                                                                                                                                                                                                                                                                                                                              
|            |                                                                                                                                                            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|            |                                                                                                                                                            | As of
 December 31, 2006 and 2007, all marketable securities covered by SFAS 115
 were classified as available-for-sale. Available-for-sale marketable
 securities are stated at fair value, with unrealized gains and losses
 reported in a separate component of shareholders equity, Accumulated other
 comprehensive income (loss). Realized gains and losses on sales of
 investments, as determined on a specific identification basis, and interest
 income, including amortization of the premium and discount on debt
 securities, are included in the consolidated statement of operations, as
 financial income or expense as appropriate (see Note 16c).                                                                                                                                                                                   

F  11

---

---

|                                           |                                 
|------------------------------------------ | --------------------------------
|                                           | OPTIBASE LTD. AND ITS SUBSIDIARY
|                                           |                                 
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS |                                 
|                                           |                                 
|U.S. dollars in thousands                  |                                 

|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|----------- | --------------------------------------- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|NOTE 2:    | SIGNIFICANT ACCOUNTING POLICIES (Cont.)
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|            |                                         | According to
 the Staff Accounting Bulletin No. 59 (SAB 59), management is required to
 evaluate each period whether the decline in value for securities is other
 than temporary. The Companys policy in evaluating the fair value of its
 investments in marketable securities is based on the following factors: (i)
 whether there is a significant decline in value of the securities suspected
 to be other than temporary; (ii) the ability to hold the security until
 recovery, and (iii) the intention to hold the security until recovery. As of
 December 31, 2006 and 2007, the Companys available-for-sale securities
 declines in the amount of $ 0 and $ 582 were included in the statement of
 operations as financial expenses, respectively.
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|            |                                         | Structured
 notes were accounted for in accordance with the provisions of FASB Emerging
 Issues Task Force (EITF) Issue No. 96-12, Recognition of Interest Income and
 Balance Sheet Classification of Structured Notes. Under the notes terms, for
 each day in which the six-months LIBOR rate is below an agreed fixed rate,
 which ranges from 3% to 10%, the notes bear interest at the rate of 10% to
 10.5% per annum. On all other days, the deposits do not bear any interest. As
 of December 31, 2007, investments in structured notes securities are less
 than their market value (see Note 3).                                                                                                                                                     
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|            | f.                                      | Inventories:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|            |                                         | Inventories
 are stated at the lower of cost or market value. Inventory reserves are
 provided to cover risks arising from slow-moving items or technological
 obsolescence. In 2005, 2006 and 2007, the Company and its subsidiary recorded
 write-off charges in a total amount of $ 336, $ 0 and $ 0, respectively, related
 to obsolete inventory and slow-moving items, which are included in the
 statement of operations under cost of revenues.                                                                                                                                                                                                                                                                                                            
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|            |                                         | Cost is
 determined as follows:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|            |                                         | Raw
 materials and components - by the average cost method.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|            |                                         | Work in
 progress and finished goods - cost of manufacturing with the addition of
 allocable indirect manufacturing costs.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|            | g.                                      | Property and
 equipment:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|            |                                         | Property and
 equipment are stated at cost net of accumulated depreciation.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|            |                                         | Depreciation
 is computed by the straight-line method over the estimated useful lives of
 the assets, at the following annual rates:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               

| |                                     |  |                                                    
| | ----------------------------------- |  | ---------------------------------------------------
| |                                     |  | %                                                  
| |                                     |  |                                                    
| |                                     |  |                                                    
| | Computers
 and peripheral equipment |  | 20 - 33                                            
| | Office
 furniture and equipment     |  | 6 - 20                                             
| | Motor
 vehicles                     |  | 15                                                 
| | Leasehold
 improvements             |  | The shorter of the useful life or term of the lease

F  12

---

---

|                                           |                                 
|------------------------------------------ | --------------------------------
|                                           | OPTIBASE LTD. AND ITS SUBSIDIARY
|                                           |                                 
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS |                                 
|                                           |                                 
|U.S. dollars in thousands                  |                                 

|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|----------- | --------------------------------------- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|NOTE 2:    | SIGNIFICANT ACCOUNTING POLICIES (Cont.)
|            |                                        
|            | h.                                      | Long-lived
 assets:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|            |                                         | The Company
 and its subsidiarys long-lived assets are reviewed for impairment in
 accordance with SFAS 144 whenever events or changes in circumstances indicate
 that the carrying amount of an asset may not be recoverable. Recoverability
 of assets to be held and used is measured by a comparison of the carrying
 amount of an asset to the future undiscounted cash flows expected to be generated
 by the asset. If such assets are considered to be impaired, the impairment to
 be recognized is measured by the amount by which the carrying amount of the
 assets exceeds the fair value of the assets. Assets to be disposed of are
 reported at the lower of the carrying amount or fair value less costs to
 sell. The Company reviewed assets on a component-level basis, which is the
 lowest level of assets for which there are identifiable cash flows that can
 be distinguished operationally and for financial reporting purposes. The
 carrying amount of the asset group was compared with the related expected
 undiscounted future cash flows to be generated by those assets over the
 estimated remaining useful life of the primary asset. In cases where the
 expected future cash flows were less than the carrying amounts of the assets,
 those assets were considered impaired and written down to their fair values.
 Fair value was established based on discounted cash flows. As of December 31,
 2007, no impairment losses have been identified.
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|            | i.                                      | Investments
 in companies:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|            |                                         | Investments
 in companies represents investments in: (i) Preferred shares of a privately
 held company which is recorded at the lower of cost or estimated fair value,
 since the Company holds an equity stake of less than 20%, does not have the
 ability to exercise significant influence over operating and financial
 policies of the investee, (ii) a privately held company by a way of
 convertible notes, (iii) ordinary shares of a public company, which is
 recorded in accordance with the equity method.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|            |                                         | The
 Companys investment in a company (i) is reviewed for impairment whenever
 events or changes in circumstances indicate that the carrying amount of an
 investment may not be recoverable, in accordance with Accounting Principles
 Board Opinion No. 18, The Equity Method of Accounting for Investments in
 Common Stock, (APB 18); (ii) is reviewed for impairment whenever events or
 changes in circumstances indicate that the carrying amount of an investment
 may not be recoverable, in accordance with SAB 59. As for impairment charges
 recorded in 2005, 2006 and 2007 see Notes 6a and 6b.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|            | j.                                      | Revenue
 recognition:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|            |                                         | The Company
 and its subsidiary generate revenues mainly from the sale of hardware
 products (products) and to a lesser extent from sales of software products.
 The Company and its subsidiary sell their products worldwide directly and
 through system integrators, VARs, distributors and OEMs who are considered
 end-customers.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    

F  13

---

---

|                                           |                                 
|------------------------------------------ | --------------------------------
|                                           | OPTIBASE LTD. AND ITS SUBSIDIARY
|                                           |                                 
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS |                                 
|                                           |                                 
|U.S. dollars in thousands                  |                                 

|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|----------- | --------------------------------------- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|NOTE 2:    | SIGNIFICANT ACCOUNTING POLICIES (Cont.)
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|            |                                         | Revenues
 from product sales in which the software is incidental to the hardware are
 recognized in accordance with Staff Accounting Bulletin No. 104, Revenue
 Recognition in Financial Statements (SAB 104), when delivery has occurred,
 persuasive evidence of an agreement exists, the vendors fee is fixed or
 determinable, no further obligation exist and collectibility is probable.
 Estimated warranty costs, which are insignificant, are based on the Company
 and its subsidiary past experience and are accrued in the financial
 statements. The Company and its subsidiary do not grant a right of return.                                                                                                                                                                                                                                                                                         
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|            |                                         | Revenues
 from sale of products that include post customer support are recognized in
 accordance with Emerging Issues Task Force (EITF) Issue No. 00-21, Revenue
 Arrangements with Multiple Deliverables (EITF 00-21) a multiple-element
 arrangement (an arrangement that involves the delivery or performance of
 multiple products, services and/or rights to use assets) is separated into
 more than one unit of accounting, if the functionality of the delivered
 element(s) is not dependent on the undelivered element(s), there is
 vendor-specific objective evidence (VSOE) of fair value of the undelivered
 element(s) and delivery of the delivered element(s) represents the
 culmination of the earnings process for those element(s). If these criteria
 are not met, the revenue is deferred until such criteria are met or until the
 period in which the last undelivered element is delivered
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|            |                                         | Revenues
 from the sale of products that require significant customization, integration
 and installation are recognized based on SOP 81-1, Accounting for
 Performance of Construction-Type and Certain Production-Type Contracts,
 according to which revenues are recognized on a percentage of completion
 basis. Percentage of completion is determined based on the Output Method,
 upon completion of milestones, when collectibility is probable. After
 delivery of a milestone, if uncertainty exists about customer acceptance,
 revenue is not recognized until acceptance. Provisions for estimated losses
 on uncompleted contracts are recognized in the period in which the likelihood
 of the losses is identified. As of December 31, 2007, no such estimated
 losses were identified.                                                                                                              
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|            |                                         | The Company
 accounts for product sales in which the software is fundamental to the
 hardware in accordance with Statement of Position 97-2, Software Revenue
 Recognition, as amended (SOP 97-2). SOP 97-2 generally requires revenue
 earned on software arrangements involving multiple elements to be allocated
 to each element based on the relative fair value of the elements. Furthermore,
 the Company follows Statement of Position 98-9, Modification of SOP 97-2,
 Software Revenue Recognition with Respect to Certain Transactions (SOP
 98-9). SOP 98-9 requires that revenue be recognized under the residual
 method when VSOE of fair value exists for all undelivered elements and VSOE
 does not exist for one or more of the delivered elements. Under the residual
 method, any discount in the arrangement is allocated to the delivered
 elements.                                     
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|            |                                         | Maintenance
 and support revenue included in multiple element arrangements is deferred and
 recognized on a straight-line basis over the term of the maintenance and
 support agreement. The VSOE of fair value of the undelivered elements
 (maintenance and support), is determined based on the renewal rate charged
 when these elements are sold separately.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|            |                                         | Amounts
 received from customers for whom revenue has not yet been recognized, are
 presented as deferred revenues.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       

F  14

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|                                           |                                 
|------------------------------------------ | --------------------------------
|                                           | OPTIBASE LTD. AND ITS SUBSIDIARY
|                                           |                                 
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS |                                 
|                                           |                                 
|U.S. dollars in thousands                  |                                 

|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|----------- | --------------------------------------- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|NOTE 2:    | SIGNIFICANT ACCOUNTING POLICIES (Cont.)
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|            | k.                                      | Research and
 development costs:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|            |                                         | Statement of
 Financial Accounting Standard No. 86, Accounting for the Costs of Computer
 Software to be Sold, Leased or Otherwise Marketed (SFAS 86) requires
 capitalization of certain software development costs subsequent to the
 establishment of technological feasibility.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|            |                                         | Based on the
 Companys product development process, technological feasibility is
 established upon completion of a working model.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|            |                                         | Research and
 development costs incurred in the process of developing product improvements
 or new products, are generally charged to expenses as incurred, net of
 participation of the Office of the Chief Scientist of Israels Ministry of
 Industry, Trade and Labor, and the European Union Research and Development
 Program (see also Note 10b).                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|            |                                         | Costs
 incurred by the Company between completion of the working model and the point
 at which the product is ready for general release, have been capitalized.
 Total costs capitalized amounted to $ 1,238 and are fully amortized as of
 December 31, 2007. Amortization expenses amounted to $ 60, $ 0 and $ 0 for the
 years ended December 31, 2005, 2006 and 2007, respectively.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|            | l.                                      | Income
 taxes:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|            |                                         | The Company
 and its subsidiary account for income taxes in accordance with Statement of
 Financial Accounting Standard No. 109, Accounting for Income Taxes (SFAS
 No. 109). This Statement prescribes the use of the liability method, whereby
 deferred tax asset and liability account balances are determined based on
 differences between financial reporting and tax bases of assets and
 liabilities and are measured using the enacted tax rates and laws that will
 be in effect when the differences are expected to reverse. The Company and
 its subsidiary provide a valuation allowance, if necessary, to reduce
 deferred tax assets to their estimated realizable value.                                                                                                                                                                                                                                                                                                                                                                                                    
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|            |                                         | Effective
 January 1, 2007, the Company adopted the provisions of FASB Interpretation
 No. 48, Accounting for Uncertainty in Income Taxes - an interpretation of
 FASB Statement No. 109 (FIN 48). FIN 48 clarifies the accounting for
 uncertainties in income taxes by establishing minimum standards for the
 recognition and measurement of tax positions taken or expected to be taken in
 a tax return. Under the requirements of FIN 48, the Company must review all
 of its tax positions and make a determination as to whether its position is
 more-likely-than-not to be sustained upon examination by regulatory
 authorities. If a tax position meets the more-likelythan-not standard, then
 the related tax benefit is measured based on a cumulative probability
 analysis of the amount that is more-likely-than-not to be realized upon ultimate
 settlement or disposition of the underlying issue. As of January 1, 2007
 there was no material difference between the provisions of SFAS 109 and FIN
 48 therefore no adjustment was recorded to the retained earnings.
|            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|            |                                         | Prior to
 2007 the Company determined its tax contingencies in accordance with SFAS 5,
 Accounting for Contingencies, or SFAS 5. The Company recorded estimated tax
 liabilities to the extent the contingencies were probable and could be
 reasonably estimated.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                

F  15

---

---

OPTIBASE LTD. AND ITS SUBSIDIARY

|                                          
|------------------------------------------
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
|                                          
|U.S. dollars in thousands                 

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

| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
| | -- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | m. | Royalty-bearing
  grants:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
| |    | Royalty-bearing
  grants from the Government of Israel for research and development are
  recognized at the time the Company is entitled to such grants on the basis of
  the related costs incurred, and are recorded as a reduction of research and
  development costs (see also Note 10b).                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
| | n. | Non-royalty-bearing
  grants:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
| |    | The Company
  receives non-royalty-bearing grants from the European Union Research and
  Development Program, and from the MOST, STRIMM and NEGEV consortiums, which
  are part of the Office of the Chief Scientist Magnet program. These grants are
  recognized at the time the Company is entitled to such grants on the basis of
  the costs incurred, and are recorded as a reduction in research and
  development costs.                                                                                                                                                                                                                                                                                                                                  
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
| | o. | Concentrations
  of credit risk:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
| |    | Financial
  instruments that potentially subject the Company and its subsidiary to
  concentrations of credit risk consist principally of cash and cash
  equivalents, marketable securities, trade receivables and long-term lease
  deposits.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
| |    | Cash and
  cash equivalents, are invested in U.S. dollar deposits with major banks in
  Israel and the United States. Such deposits in the United States may be in
  excess of insured limits and are not insured in other jurisdictions.
  Management believes that the financial institutions that hold the Groups
  cash and cash equivalents are financially sound and, accordingly, minimum
  credit risk exists with respect to these financial instruments.                                                                                                                                                                                                                                                                                               
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
| |    | Marketable
  securities are invested in via major investment banks in the United States.
  These investments include corporate bonds, Government and corporate
  structured notes. Management believes that the financial institutions are
  financially sound, the investments are well diversified and, accordingly,
  credit risk exists with respect to these marketable securities, all in accordance
  with the Companys investment policy.                                                                                                                                                                                                                                                                                                                
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
| |    | The trade
  receivables of the Company and its subsidiary are geographically diversified
  and derived from sales to customers mainly in North America, Europe and the
  Far East. The Company and its subsidiary generally do not require collateral;
  however, in certain circumstances, the Company and its subsidiary may require
  letters of credit, advance payments, insurance, other collateral or
  additional guarantees. An allowance for doubtful accounts is determined with
  respect to those amounts that the Company and its subsidiary have determined
  to be doubtful of collection in addition to a general allowance for the
  remaining accounts. The Company and its subsidiary perform ongoing credit
  evaluations of their customers.

F  16

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OPTIBASE LTD. AND ITS SUBSIDIARY

|                                          
|------------------------------------------
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
|                                          
|U.S. dollars in thousands                 

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

| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
| | -- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | p. | Basic and
  diluted net earnings (loss) per share:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
| |    | Basic net loss
  per share is computed based on the weighted average number of ordinary shares
  outstanding during each year. Diluted net loss per share is computed based on
  the weighted average number of ordinary shares outstanding during each year,
  plus dilutive potential ordinary shares considered outstanding during the
  year, in accordance with Statement of Financial Accounting Standard No. 128,
  Earnings Per Share (SFAS No. 128).                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
| |    | All
  outstanding stock options and warrants have been excluded from the calculation
  of the diluted net loss per ordinary share because the securities are
  anti-dilutive for all periods presented.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
| | q. | Accounting
  for stock-based compensation:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
| |    | On January
  1, 2006, the Company adopted SFAS No. 123 (revised 2004), Share-Based Payment
  (SFAS No. 123(R)) which requires the measurement and recognition of
  compensation expense based on estimated fair values for all share-based
  payment awards made to employees and directors. SFAS No. 123(R) supersedes
  Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to
  Employees (APB No. 25), for periods beginning in fiscal year 2006. In
  March 2005, the Securities and Exchange Commission issued Staff Accounting
  Bulletin No. 107 (SAB 107) relating to SFAS No. 123(R). The Company has
  applied the provisions of SAB 107 in its adoption of SFAS No. 123(R). SFAS
  No. 123(R) requires companies to estimate the fair value of equity-based
  payment awards on the date of grant using an option-pricing model. The value
  of the portion of the award that is ultimately expected to vest is recognized
  as an expense over the requisite service periods in the Companys
  consolidated operations statements.
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
| |    | At December
  31, 2007, the Company has four stock-based employee compensation plans, which
  are described more fully in Note 13. Prior to January 1, 2006, the Company
  accounted for those plans under the recognition and measurement provisions of
  APB No. 25, and related interpretations, as permitted by FASB Statement No.
  123, Accounting for Stock-Based Compensation. No stock-based employee
  compensation cost was recognized in the statement of operations for the years
  ended December 31, 2005 and 2004, as all options granted under those plans
  had an exercise price equal to the market value of the underlying common
  stock on the date of grant.                                                                                                                                                                                                                                                                                                                                                                                        

F  17

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---

OPTIBASE LTD. AND ITS SUBSIDIARY

|                                          
|------------------------------------------
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
|                                          
|U.S. dollars in thousands                 

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

| |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
| |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | Effective
  January 1, 2006, the Company adopted the fair value recognition provisions of
  FASB Statement No. 123(R), Share-Based Payment, using the
  modified-prospective-transition method. Under that transition method,
  compensation cost recognized during 2006 includes: (a) compensation cost for
  all share-based payments granted prior to, but not yet vested as of January
  1, 2006, based on the grant date fair value estimated in accordance with the
  original provisions of Statement 123, and (b) compensation cost for all
  share-based payments granted subsequent to January 1, 2006, based on the
  grant-date fair value estimated in accordance with the provisions of
  Statement 123(R). Results for prior periods have not been restated.                         
| |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
| |  | As a result
  of adopting Statement 123(R) on January 1, 2006, the Companys net loss from
  continuing operations for the year ended December 31, 2006, were $ 519 higher
  than if it had continued to account for share-based compensation under APB
  No. 25. Basic and diluted loss per share for the year ended December 31, 2006,
  $ 0.04 higher than if the Company had continued to account for share-based
  compensation under Opinion 25. The adoption of Statement 123(R) did not
  affect the Companys discontinued operation.                                                                                                                                                                                                                                                        
| |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
| |  | The Company
  estimates the fair value of stock options granted using the Black-Scholes-option
  pricing model. The option-pricing model requires a number of
  assumptions, of which the most significant are the expected stock price
  volatility and the expected option term. Expected volatility was calculated
  based upon actual historical stock price movements. The expected term of
  options granted was calculated using the simplified method permitted by SAB
  107. The risk-free interest rate is based on the yield from U.S. treasury
  bonds with an equivalent term. The Company has historically not paid
  dividends and has no foreseeable plans to pay dividends. The Company
  recognizes the related expenses over the vesting period using the straight
  line method.
| |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
| |  | The fair
  value for options granted in 2005, 2006 and 2007 is estimated at the date of
  grant using a Black-Scholes options pricing model with the following weighted
  average assumptions:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        

|                          |  |                         |   |      |     |      |  |     |   | 
|------------------------- |  | ----------------------- | - | ---- | --- | ---- |  | --- | - | 
|                          |  | Year ended December 31, |  
|                          |  |                         |  
|Employee
  Stock Options  |  | 2005                    |   | 2006 |     | 2007 | 
|                          |  |                         |   |      |     |      | 
|                         
|Volatility                |  | 58                      | % |      | 58  | %    |  | 58  | % | 
|Risk-free
  interest rate |  | 4.1                     | % |      | 4.6 | %    |  | 4.6 | % | 
|Dividend
  yield          |  | 0                       | % |      | 0   | %    |  | 0   | % | 
|Expected
  life (years)   |  | 4.6                     |   |      | 4.6 |      |  | 4.6 |   | 
|                          |  |                         |   |      |     |      |  |     |   | 

F  18

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---

OPTIBASE LTD. AND ITS SUBSIDIARY

|                                          
|------------------------------------------
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
|                                          
|U.S. dollars in thousands                 

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

| |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                           
| |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | The
  following table illustrates the effect on 2005 net loss and loss per share if
  the Company had applied the fair value recognition provisions of Statement
  123 to options granted under the Companys stock option plans in all periods
  presented. For purposes of this pro forma disclosure, the value of the
  options is estimated using a Black-Scholes option-pricing formula and
  amortized to expense over the options vesting periods.

|                                                                                                                                                |  |                              |        |  
|----------------------------------------------------------------------------------------------------------------------------------------------- |  | ---------------------------- | ------ | -
|                                                                                                                                                |  | Year
ended
December 31,
2005 |       
|                                                                                                                                                |  |                              |       
|                                                                                                                                               
|Net loss from continuing operations, as
  reported                                                                                              |  | $                            | (2,195 | )
|Add: Stock-based employee compensation
  expense included in reported net
  income, net of related tax effects                                  |  |                              | -      |  
|Deduct: Total stock-based employee
  compensation expense determined under fair value based method for all awards,
  net of related tax effects |  |                              | (798   | )
|                                                                                                                                                |  |                              |        |  
|                                                                                                                                               
|Pro forma net loss, from continuing
  operations                                                                                                |  | $                            | (2,993 | )
|                                                                                                                                                |  |                              |        |  
|                                                                                                                                               
|Net loss, from discontinuing operations as
  reported                                                                                           |  | $                            | (1,250 | )
|Add: Stock-based employee compensation
  expense included in reported net income, net of related tax effects                                    |  |                              | -      |  
|Deduct: Total stock-based employee
  compensation expense determined under fair value based method for all awards,
  net of related tax effects |  |                              | -      |  
|                                                                                                                                                |  |                              |        |  
|                                                                                                                                               
|Pro forma net loss, from discontinuing
  operations                                                                                             |  | $                            | (1,250 | )
|                                                                                                                                                |  |                              |        |  
|                                                                                                                                               
|Net loss, as reported                                                                                                                           |  | $                            | (3,445 | )
|                                                                                                                                                |  |                              |        |  
|                                                                                                                                               
|Pro forma net loss                                                                                                                              |  | $                            | (4,243 | )
|                                                                                                                                                |  |                              |        |  
|                                                                                                                                               
|Basic and diluted loss per share as
  reported:                                                                                                 |  |                              |        |  
|                                                                                                                                               
|Basic from continuing - as reported                                                                                                             |  | $                            | (0.17  | )
|                                                                                                                                                |  |                              |        |  
|Diluted from continuing - as reported                                                                                                           |  | $                            | (0.17  | )
|                                                                                                                                                |  |                              |        |  
|Basic from discontinuing - as reported                                                                                                          |  | $                            | (0.09  | )
|                                                                                                                                                |  |                              |        |  
|Diluted from discontinuing - as reported                                                                                                        |  | $                            | (0.09  | )
|                                                                                                                                                |  |                              |        |  
|Basic - as reported                                                                                                                             |  | $                            | (0.26  | )
|                                                                                                                                                |  |                              |        |  
|Diluted - as reported                                                                                                                           |  | $                            | (0.26  | )
|                                                                                                                                                |  |                              |        |  
|                                                                                                                                               
|Basic from continuing - pro forma                                                                                                               |  | $                            | (0.23  | )
|                                                                                                                                                |  |                              |        |  
|Diluted from continuing - pro forma                                                                                                             |  | $                            | (0.23  | )
|                                                                                                                                                |  |                              |        |  
|Basic from discontinuing - pro forma                                                                                                            |  | $                            | (0.09  | )
|                                                                                                                                                |  |                              |        |  
|Diluted from discontinuing - pro forma                                                                                                          |  | $                            | (0.09  | )
|                                                                                                                                                |  |                              |        |  
|Basic - pro forma                                                                                                                               |  | $                            | (0.32  | )
|                                                                                                                                                |  |                              |        |  
|Diluted - pro forma                                                                                                                             |  | $                            | (0.32  | )
|                                                                                                                                                |  |                              |        |  

F  19

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OPTIBASE LTD. AND ITS SUBSIDIARY

|                                           |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|------------------------------------------ | --------------------------------------- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
|                                          
|U.S. dollars in thousands                 
|                                          
|NOTE 2:                                   | SIGNIFICANT ACCOUNTING POLICIES (Cont.)
|                                           |                                        
|                                           | r.                                      | Severance
 pay:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|                                           |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|                                           |                                         | The
 Companys liability for severance pay is calculated pursuant to Israels
 Severance Pay Law, based on the most recent salary of the employees,
 multiplied by the number of years of employment as of the balance sheet date.
 Israeli employees are entitled to severance equal to one months salary for
 each year of employment, or a portion thereof. In the event of a decrease in
 an employees salary, severance pay is calculated as follows: the severance
 pay with respect to the period prior to the decrease is based on the most
 recent salary of the employee prior to such decrease multiplied by the number
 of years of the employment until the date of the decrease. The severance pay
 with respect to the period following such decrease is based on the actual
 recent salary of such employee multiplied by the number of years of employment
 following such decrease.
|                                           |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|                                           |                                         | The
 Companys liability for all of its employees is fully provided by monthly
 deposits with insurance policies and by an accrual. The value of these
 policies is recorded as an asset in the Companys balance sheet.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|                                           |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|                                           |                                         | The
 deposited funds include profits accumulated up to the balance sheet date. The
 deposited funds may be withdrawn only upon the fulfillment of the obligation,
 pursuant to the Severance Pay Law or labor agreements. The value of the
 deposited funds is based on the cash surrendered value of these policies, and
 includes immaterial profits.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|                                           |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|                                           |                                         | Severance
 pay expense amounted to $ 379, $ 355 and $ 446 for the years ended December 31,
 2005, 2006 and 2007, respectively.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|                                           |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|                                           | s.                                      | Employee
 benefit plan:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|                                           |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|                                           |                                         | The Company
 has a 401(K) defined contribution plan covering certain employees in the U.S.
 All eligible employees may elect to contribute up to 100%, but no more than
 $ 15.5 per year, of their annual compensation to the plan through salary
 deferrals, subject to IRS limits. The Company makes a matching contribution
 up to 25% over a vesting period of 5 years.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|                                           |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|                                           | t.                                      | Fair value
 of financial instruments:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
|                                           |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|                                           |                                         | The
 following methods and assumptions were used by the Company and its subsidiary
 in estimating their fair value disclosures for financial instruments:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
|                                           |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|                                           |                                         | The carrying
 amounts of cash and cash equivalents, trade receivables, other accounts
 receivable, trade payables, other accounts payable and derivative instruments
 approximate their fair value due to the short-term maturity of such
 instruments.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|                                           |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|                                           |                                         | The fair
 value of marketable securities is based on quoted market prices (see Note 3).                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|                                           |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|                                           |                                         | The carrying
 amount of long-term lease deposits and long-term capital lease obligations is
 estimated by discounting the future cash flows using the current interest
 rate for deposits and obligations of similar terms and maturities. The
 carrying amount of the long-term lease deposits and the long-term capital
 lease obligations approximates their fair value.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            

F  20

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OPTIBASE LTD. AND ITS SUBSIDIARY

|                                           |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|------------------------------------------ | --------------------------------------- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
|                                          
|U.S. dollars in thousands                 
|                                          
|NOTE 2:                                   | SIGNIFICANT ACCOUNTING POLICIES (Cont.)
|                                           |                                        
|                                           | u.                                      | Treasury
 Shares:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|                                           |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|                                           |                                         | During past
 years, the Company repurchased certain of its ordinary shares on the open
 market and holds such shares as treasury shares. The Company presents the
 cost to repurchase Treasury shares as a reduction in shareholders equity.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|                                           |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|                                           |                                         | When
 Treasury shares are reissued, the Company accounts for the re-issuance in
 accordance with Accounting Principles Board No. 6, Status of Accounting
 Research Bulletins (APB No. 6) and charges the excess of the purchase cost
 over the re-issuance price (loss) to retained earnings. The purchase cost is
 calculated based on FIFO method. In case the purchase cost is lower than the
 re-issuance price, the Company credits the difference to additional paid-in
 capital.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|                                           |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|                                           | v.                                      | Impact of
 recently issued accounting standards:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|                                           |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|                                           |                                         | In September
 2006, the FASB issued SFAS No. 157, Fair Value Measurements (SFAS No.
 157). This statement provides a single definition of fair value, a framework
 for measuring fair value, and expanded disclosures concerning fair value.
 Previously, different definitions of fair value were contained in various
 accounting pronouncements creating inconsistencies in measurement and
 disclosures. SFAS No. 157 applies under those previously issued
 pronouncements that prescribe fair value as the relevant measure of value,
 except SFAS No. 123(R) and related interpretations. The statements does not
 apply to accounting standards that require or permit measurement similar to
 fair value but are not intended to measure fair value. This pronouncement is
 effective for fiscal years beginning after November 15, 2007. On February 12,
 2008, the FASB issued FASB Staff Position No. FAS 157-2, Effective Date of
 FASB Statement No. 157 (FSP 157-2). FSP 157-2 amends SFAS No. 157 to delay
 the effective date of SFAS No. 157 for nonfinancial assets and nonfinancial
 liabilities, except for items that are recognized or disclosed at fair value
 in the financial statements on a recurring basis (that is, at least
 annually). For items within its scope, FSP 157-2 defers the effective date of
 SFAS No. 157 to fiscal years beginning after November 15, 2008, and interim
 periods within those fiscal years. The Company is currently evaluating the
 impact of adopting SFAS No. 157.
|                                           |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|                                           |                                         | In February
 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial
 Assets and Financial Liabilities (SFAS No. 159). This statement provides
 companies with an option to report selected financial assets and liabilities
 at fair value. Generally accepted accounting principles have required
 different measurement attributes for different assets and liabilities that
 can create artificial volatility in earnings. The Standards objective is to
 reduce both complexity in accounting for financial instruments and the
 volatility in earnings caused by measuring related assets and liabilities
 differently. This Statement is effective as of the beginning of an entitys
 first fiscal year beginning after November 15, 2007. The Company does not
 expect the adoption of SFAS 159 will have any material effect on its
 consolidated financial statements.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      

F  21

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OPTIBASE LTD. AND ITS SUBSIDIARY

|                                                            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|----------------------------------------------------------- | --------------------------------------- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS                 
|                                                           
|U.S. dollars in thousands (except share and per share data)
|                                                           
|NOTE 2:                                                    | SIGNIFICANT ACCOUNTING POLICIES (Cont.)
|                                                            |                                        
|                                                            |                                         | In December
 2007, the FASB issued SFAS No. 141R, Business Combinations, (SFAS 141R).
 SFAS 141R establishes principles and requirements for how the acquirer of a
 business recognizes and measures in its financial statements the identifiable
 assets acquired, the liabilities assumed, and any non-controlling interest in
 the acquiree. The statement also provides guidance for recognizing and
 measuring the goodwill acquired in the business combination and determines
 what information to disclose to enable users of the financial statement to
 evaluate the nature and financial effects of the business combination. SFAS
 141R is effective for financial statements issued for fiscal years beginning
 after December 15, 2008. Accordingly, any business combinations the Company
 executes will be recorded and disclosed following existing GAAP until January
 1, 2009. The Company expects SFAS No. 141R will have an impact on its
 consolidated financial statements when effective, but the nature and
 magnitude of the specific effects will depend upon the nature, terms and size
 of the acquisitions it consummates after the effective date. The Company is
 still assessing the impact of this standard on its future consolidated
 financial statements.
|                                                            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|                                                            |                                         | In December
 2007, the SEC staff issued Staff Accounting Bulletin No. 110 (SAB 110),
 which, effective January 1, 2008, amends and replaces SAB 107, Share-Based
 Payment. SAB 110 expresses the views of the SEC staff regarding the use of a
 simplified method in developing an estimate of expected term of plain
 vanilla share options in accordance with SFAS No. 123(R). Under the
 simplified method, the expected term is calculated as the midpoint between
 the vesting date and the end of the contractual term of the option. The use
 of the simplified method, which was first described in SAB 107, was
 scheduled to expire on December 31, 2007. SAB 110 extends the use of the
 simplified method for plain vanilla awards in certain situations. The SEC
 staff does not expect the simplified method to be used when sufficient
 information regarding exercise behavior, such as historical exercise data or
 exercise information from external sources, becomes available. The Company is
 currently assessing the potential impact that the adoption of SAB 110 could
 have on its financial statements.                                                                                                                                                 
|                                                            |                                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    
|NOTE 3:                                                    | MARKETABLE SECURITIES                  

|                                              |  |                   |        |                            |   |                             |  |                |        |                   |   |                            |  |                             |       |                |   |     |  |   |   |  |   |       | 
|--------------------------------------------- |  | ----------------- | ------ | -------------------------- | - | --------------------------- |  | -------------- | ------ | ----------------- | - | -------------------------- |  | --------------------------- | ----- | -------------- | - | --- |  | - | - |  | - | ----- | 
|                                              |  | December
 31,     |       
|                                              |  |                   |       
|                                              |  | 2006              |        | 2007                       |  
|                                              |  |                   |        |                            |  
|                                              |  | Amortized
 
 cost |        | Gross 
 unrealized 
 Gains |   | Gross 
 unrealized 
 losses |  | Market 
 value |        | Amortized
 
 cost |   | Gross 
 unrealized 
 gains |  | Gross 
 unrealized 
 losses |       | Market 
 value |  
|                                              |  |                   |        |                            |   |                             |  |                |        |                   |   |                            |  |                             |       |                |  
|Available-for-sale:                           |  |                   |        |                            |   |                             |  |                |        |                   |   |                            |  |                             |       |                |   |     |  |   |   |  |   |       | 
|Government and
 corporate debt                |  | $                 | 15,650 |                            | $ | 909                         |  | $              | -      |                   | $ | 16,559                     |  | $                           | 1,340 |                | $ | 217 |  | $ | - |  | $ | 1,557 | 
|Government and
 corporate structured notes *) |  |                   | 28,911 |                            |   | -                           |  |                | (1,248 | )                 |   | 27,663                     |  |                             | 6,868 |                |   | 49  |  |   | - |  |   | 6,917 | 
|                                              |  |                   |        |                            |   |                             |  |                |        |                   |   |                            |  |                             |       |                |   |     |  |   |   |  |   |       | 
|                                              |  |                   |        |                            |   |                             |  |                |        |                   |   |                            |  |                             |       |                |   |     |  |   |   |  |   |       | 
|Total securities                              |  | $                 | 44,561 |                            | $ | 909                         |  | $              | (1,248 | )                 | $ | 44,222                     |  | $                           | 8,208 |                | $ | 266 |  | $ | - |  | $ | 8,474 | 
|                                              |  |                   |        |                            |   |                             |  |                |        |                   |   |                            |  |                             |       |                |   |     |  |   |   |  |   |       | 

| |    |                                                                                                                                                         
| | -- | --------------------------------------------------------------------------------------------------------------------------------------------------------
| | *) | The expected
 maturities may differ from the contractual maturities because debtors may
 have the right to call or prepay obligations without penalties.

F  22

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OPTIBASE LTD. AND ITS SUBSIDIARY

|                                                            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                | 
|----------------------------------------------------------- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | 
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS                 
|                                                           
|U.S. dollars in thousands (except share and per share data)
|                                                           
|NOTE 3:                                                    | MARKETABLE SECURITIES (Cont.)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|                                                            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|                                                            | Realized
 gains on sales of available-for-sale securities totaled $ 36, $ 10 and $ 733 in
 2005, 2006 and 2007, respectively (Note 16c). Realized losses on sales of
 available-for-sale securities totaled $ 0, $ 42 and $ 523 in 2005, 2006 and
 2007, respectively (Note 16c). The net adjustment to unrealized holding gains
 (losses) on available-for-sale securities, included as a separate component
 of shareholders equity - Accumulated other comprehensive gains (losses),
 amounted to $ (3,056), $ 1,566 and $ 605 in 2005, 2006 and 2007, respectively.
 As of December 31, 2006 and 2007, the amount of other comprehensive gains
 (losses) is composed of unrealized gains (losses), net.
|                                                            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                | 
|                                                            | Included in
 the Companys investments are structured notes with an estimated fair value
 of approximately $ 27,663 and $ 6,917 as of December 31, 2006 and 2007,
 respectively. Such investments are used by management to enhance yields,
 diversify the investments, and manage the Companys exposure to interest rate
 fluctuations. The notes were acquired from several banks and were categorized
 as available-for-sale. The notes bear interest based upon the rate of the 6
 months LIBOR.                                                                                                                                                                                                         
|                                                            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                | 
|                                                            | During the
 first quarter of 2008, the Company realized its entire investment in
 corporate bonds and structured notes.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       

|                                |  |                   |        |                   |   |                  |  |            |       |  |   |       | 
|------------------------------- |  | ----------------- | ------ | ----------------- | - | ---------------- |  | ---------- | ----- |  | - | ----- | 
|                                |  | December 31, 2006 |        | December 31, 2007 |  
|                                |  |                   |        |                   |  
|                                |  | Amortized 
 cost  |        | Fair value        |   | Amortized 
 cost |  | Fair value |      
|                                |  |                   |        |                   |   |                  |  |            |      
|Available-for-sale
 securities: |  |                   |        |                   |   |                  |  |            |       |  |   |       | 
|Matures in one year             |  | $                 | 993    |                   | $ | 1,006            |  | $          | -     |  | $ | -     | 
|Matures from 1 to 5 years       |  |                   | 11,581 |                   |   | 12,370           |  |            | 1,340 |  |   | 1,557 | 
|Matures from 6 to 10 years      |  |                   | 31,987 |                   |   | 30,846           |  |            | 6,868 |  |   | 6,917 | 
|                                |  |                   |        |                   |   |                  |  |            |       |  |   |       | 
|                                |  |                   |        |                   |   |                  |  |            |       |  |   |       | 
|Total                           |  | $                 | 44,561 |                   | $ | 44,222           |  | $          | 8,208 |  | $ | 8,474 | 
|                                |  |                   |        |                   |   |                  |  |            |       |  |   |       | 

|            |                                               
|----------- | ----------------------------------------------
|NOTE 4:    | OTHER ACCOUNTS RECEIVABLE AND PREPAID EXPENSES

|                        |  |              |     |      |   |       | 
|----------------------- |  | ------------ | --- | ---- | - | ----- | 
|                        |  | December 31, |    
|                        |  |              |    
|                        |  | 2006         |     | 2007 |  
|                        |  |              |     |      |  
|Employees               |  | $            | 6   |      | $ | 22    | 
|Government
 authorities |  |              | 148 |      |   | 597   | 
|Prepaid
 expenses       |  |              | 275 |      |   | 243   | 
|Interest
 receivable    |  |              | 343 |      |   | 344   | 
|Others                  |  |              | -   |      |   | 281   | 
|                        |  |              |     |      |   |       | 
|                        |  | $            | 772 |      | $ | 1,487 | 
|                        |  |              |     |      |   |       | 

F  23

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OPTIBASE LTD. AND ITS SUBSIDIARY

|                                          
|------------------------------------------
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
|                                          
|U.S. dollars in thousands                 

|            |            
|----------- | -----------
|NOTE 5:    | INVENTORIES

|                               |  |              |       |      |   |       | 
|------------------------------ |  | ------------ | ----- | ---- | - | ----- | 
|                               |  | December 31, |      
|                               |  |              |      
|                               |  | 2006         |       | 2007 |  
|                               |  |              |       |      |  
|                               |  |              |       |      |   |       | 
|Raw
  materials and components |  | $            | 1,283 |      | $ | 1,800 | 
|Work in
  progress             |  |              | 362   |      |   | 128   | 
|Finished
  goods               |  |              | 2,502 |      |   | 3,393 | 
|                               |  |              |       |      |   |       | 
|                               |  |              |       |      |   |       | 
|                               |  | $            | 4,147 |      | $ | 5,321 | 
|                               |  |              |       |      |   |       | 

|            |                          |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|----------- | ------------------------ | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|NOTE 6:    | INVESTMENTS IN COMPANIES
|            |                          |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|            | a.                       | In November
  2000, the Company signed an agreement with a privately held company, Mobixell
  Network, Inc. (Mobixell), according to which the Company has licensed
  Mobixell to use certain of its MPEG-4 technologies.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
|            |                          |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|            |                          | As of
  December 31, 2007, the outstanding balance of $ 700 represents the investment
  in Mobixell. As of December 31, 2006, the Company holds approximately 5.38%
  of Mobixells equity. The investment is treated on the basis of the cost
  method.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        
|            |                          |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|            | b.                       | In July
  2001, the Company, invested $ 250 in a privately held company, V.Box
  Communication Ltd. (V. Box). The investment was made by way of a loan
  against a note that can be converted into ordinary shares of V. Box, at any
  time, by a five-day prior written notice. The principal amount of the loan
  should be payable upon the earlier of: (i) July 1, 2010; (ii) actual
  liquidation of V. Box; or (iii) mutual consent of the Company and the other
  investor of V. Box. The loan does not bear interest. Through December 31,
  2007, the Company invested an additional $ 2,322 in V. Box in respect of
  additional convertible notes, During 2007, the Company invested additional
  $ 325 by the way of a promissory note bearing no interest and no linkage
  differentials. Such additional amounts will be repaid only out of proceeds
  received by V.Box on account of sale of all or substantially all of the
  assets of V.Box or a specific line of products and/or upon the occurrence of
  an event of default, including among others, insolvency or bankruptcy of
  V.Box, appointment of a receiver or a liquidator to V.Box and exercise of any
  liens on all or substantially all of V.Box assets. As described above, in
  case of conversion, the Company will hold approximately 34% of V. Box
  ordinary shares.
|            |                          |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|            |                          | The Company
  recorded impairment losses in the amount of $ 622, $ 173 and $ 325 in the years
  ended December 31, 2005, 2006 and 2007, respectively, which are included in
  the statement of operations under other expenses (income), net.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|            |                          |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|            | c.                       | In January
  2007, the Company purchased 3,035,223 ordinary shares of Scopus, representing
  approximately 23% of Scopus issued share capital, from Koor Corporate Venture
  Capital and Koor Industries Ltd. at an aggregate purchase price of
  approximately $ 15,935. In August 2007, the company has completed a tender
  offer process and purchased on the market additional 690,000 ordinary shares
  of Scopus, representing approximately 5% of Scopus then issued share capital,
  at an aggregate purchase price of $ 3,968.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        

F  24

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OPTIBASE LTD. AND ITS SUBSIDIARY

|                                          
|------------------------------------------
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
|                                          
|U.S. dollars in thousands                 

|           |                                 
|---------- | --------------------------------
|NOTE 6:   | INVESTMENTS IN COMPANIES (Cont.)

| |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
| |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | The company
  accounted for the investment in accordance with the provision of APB 18, and
  as the Company has the ability to exercise significant influence over Scopus,
  the equity method of accounting was applied. As such, the purchase price has
  been allocated to the assets acquired and the liability assumed based on
  their fair value at the dates of acquisition. The fair values of the
  identified assets were established based on an independent valuation study
  performed by a third-party specialist. The excess of the purchase price over
  the fair value of the net tangible and intangible assets acquired has been
  recorded as goodwill totaling approximately $ 1,023. For the year ended
  December 31, 2007, the Company recorded its share of Scopus loss as well as
  amortization of tangible and intangible assets acquired, amounting to $ 2,769.
| |  |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              
| |  | The
  following summarizes information of Scopus:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            

|                          |  |                     |         |  
|------------------------- |  | ------------------- | ------- | -
|                          |  | December 31,
  2007 |        
|                          |  |                     |        
|                          |  |                     |         |  
|Current
  assets          |  | $                   | 57,881  |  
|Non current
  assets      |  |                     | 3,788   |  
|Current liabilities       |  |                     | (17,405 | )
|Non current
  liabilities |  |                     | (1,945  | )

|             |  |                                   |        |  
|------------ |  | --------------------------------- | ------ | -
|             |  | Year ended 
  December 31,
  2007 |       
|             |  |                                   |       
|             |  |                                   |       
|Revenues     |  | $                                 | 57,477 |  
|Gross profit |  |                                   | 27,576 |  
|Net loss     |  |                                   | (2,777 | )

|            |                       
|----------- | ----------------------
|NOTE 7:    | PROPERTY AND EQUIPMENT

|                                   |  |              |        |      |   |        | 
|---------------------------------- |  | ------------ | ------ | ---- | - | ------ | 
|                                   |  | December 31, |       
|                                   |  |              |       
|                                   |  | 2006         |        | 2007 |  
|                                   |  |              |        |      |  
|Cost:                              |  |              |        |      |   |        | 
|Computers and peripheral equipment |  | $            | 9,990  |      | $ | 11,150 | 
|Office furniture and equipment     |  |              | 352    |      |   | 364    | 
|Motor vehicles                     |  |              | 19     |      |   | 5      | 
|Leasehold improvements             |  |              | 831    |      |   | 851    | 
|                                   |  |              |        |      |   |        | 
|                                   |  |              |        |      |   |        | 
|                                   |  |              | 11,192 |      |   | 12,370 | 
|Accumulated depreciation           |  |              | 9,492  |      |   | 10,679 | 
|                                   |  |              |        |      |   |        | 
|                                   |  |              |        |      |   |        | 
|Depreciated cost                   |  | $            | 1,700  |      | $ | 1,691  | 
|                                   |  |              |        |      |   |        | 

As for
charges, see Note 10d.

Depreciation
expenses amounted to $ 1,049, $ 1,106 and $ 1,244 for the years ended December
31, 2005, 2006 and 2007, respectively.

F  25

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OPTIBASE LTD. AND ITS SUBSIDIARY

|                                           | 
|------------------------------------------ | 
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS | 
|                                           | 
|U.S. dollars in thousands                  | 

|            |                                            
|----------- | -------------------------------------------
|NOTE 8:    | OTHER ACCOUNTS PAYABLE AND ACCRUED EXPENSES

|                                 |  |              |       |      |   |       | 
|-------------------------------- |  | ------------ | ----- | ---- | - | ----- | 
|                                 |  | December 31, |      
|                                 |  |              |      
|                                 |  | 2006         |       | 2007 |  
|                                 |  |              |       |      |  
|                                 |  |              |       |      |   |       | 
|Employees
  and payroll accruals |  | $            | 1,666 |      | $ | 1,679 | 
|Royalties
  (see Note 10b)       |  |              | 1,656 |      |   | 1,774 | 
|Accrued
  expenses               |  |              | 2,471 |      |   | 1,659 | 
|Others                           |  |              | 1,059 |      |   | 776   | 
|                                 |  |              |       |      |   |       | 
|                                 |  |              |       |      |   |       | 
|                                 |  | $            | 6,852 |      | $ | 5,888 | 
|                                 |  |              |       |      |   |       | 

|            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|----------- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|NOTE 9:    | SHORT-TERM BANK CREDIT LINE                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|            | As of
  December 31, 2006 and 2007, the Company and its subsidiary had authorized
  lines of credit in the amount of $ 13,228 and $ 7,510, respectively, out of
  which $ 828 and $ 910, respectively, are linked to the NIS and bear an annual
  bank interest rate of Prime plus 1%-1.25%, and $ 12,400 and $ 6,600,
  respectively, bear an annual interest rate of LIBOR plus 0.5%-0.65%. An
  amount of approximately $ 6,900 is secured by marketable securities of the
  Company and its subsidiary.
|            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|            | The Company
  and its subsidiary had an utilized line of credit in the amount of $ 3,636 and
  $ 634 as of December 31, 2006 and 2007, respectively (there is no material fee
  for the unused portion of the line of credit).                                                                                                                                                                                                                                                                             

|            |                                        |                                                                                                                                                   
|----------- | -------------------------------------- | --------------------------------------------------------------------------------------------------------------------------------------------------
|NOTE 10:   | COMMITMENTS AND CONTINGENT LIABILITIES
|            |                                        |                                                                                                                                                   
|            | a.                                     | Lease
  commitments:                                                                                                                              
|            |                                        |                                                                                                                                                   
|            |                                        | The Company
  and its subsidiarys facilities and motor vehicles are leased under several
  operating lease agreements for periods ending in 2010.
|            |                                        |                                                                                                                                                   
|            |                                        | Future
  minimum lease commitments under non-cancelable operating leases are as
  follows:                                                        

|                        |  |   |       | 
|----------------------- |  | - | ----- | 
|Year ended December 31, |  |   |       | 
|                        |  |   |       | 
|                        |  |   |       | 
|2008                    |  | $ | 1,283 | 
|2009                    |  |   | 1,084 | 
|2010                    |  |   | 949   | 
|                        |  |   |       | 
|                        |  |   |       | 
|                        |  | $ | 3,316 | 
|                        |  |   |       | 

| |  |                                                                                                                                                                                                                                                             
| |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |  | As of
  December 31, 2007, the Company and its subsidiary provided long-term deposits
  amounting to $ 318 as collateral, in accordance with the lease agreements.                                                                                          
| |  |                                                                                                                                                                                                                                                             
| |  | Rent
  expenses amounted to $ 804, $ 607 and $ 567 for the years ended December 31,
  2005, 2006 and 2007, respectively. Motor vehicle leasing expenses for the
  years ended December 31, 2005, 2006 and 2007, were $ 438, $ 505 and $ 549,
  respectively.

F  26

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OPTIBASE LTD. AND ITS SUBSIDIARY

|                                          
|------------------------------------------
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
|                                          
|U.S. dollars in thousands                 

|            |                                                |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|----------- | ---------------------------------------------- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|NOTE 10:   | COMMITMENTS AND CONTINGENT LIABILITIES (Cont.)
|            |                                                |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|            | b.                                             | Royalty
 commitments:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
|            |                                                |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|            |                                                | The Company
 participated in programs sponsored by the Israeli Government for the support
 of research and development activities. The Company is obligated to pay
 royalties to the Office of the Chief Scientist (OCS), amounting to 3%-5% of
 the sales of the products and other related revenues generated from such
 projects, up to 100% of the grants received, linked to the U.S. dollar and
 for grants received after January 1, 1999 also bearing interest at the rate
 of LIBOR. The obligation to pay these royalties is contingent on actual sales
 of the products and in the absence of such sales, no payment is required.
|            |                                                |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|            |                                                | Through
 December 31, 2007, the Company has paid or accrued royalties to the OCS in
 the amount of $ 3,800, which was recorded under cost of revenues. As of
 December 31, 2007, the Company had an outstanding contingent obligation to
 pay royalties in the amount of approximately $ 3,183 plus interest.                                                                                                                                                                                                                                                                                                                                 
|            |                                                |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|            | c.                                             | Guarantees:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|            |                                                |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|            |                                                | As of
 December 31, 2007, the Company has obtained bank guarantees in favor of a
 lessor and the Israeli Chambers of Commerce totaling $ 228.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|            |                                                |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|            | d.                                             | Assets
 pledged as collateral:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|            |                                                |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|            |                                                | As
 collateral for the Companys lines of credit, a fixed charge has been placed
 on the Companys property and equipment, shareholders equity and a floating
 charge (security interest in assets of the Company as they exist from time to
 time) has been placed on all the other assets of the Company. Part of the
 Company and its subsidiarys marketable securities are used as collateral for
 a line of credit (see Note 9).                                                                                                                                                                                                       
|            |                                                |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|            | e.                                             | Legal claim
 and contingent liabilities:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      
|            |                                                |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|            |                                                | On September
 13, 2005 the Company received a lawsuit filed by Vsoft Ltd. (Vsoft), a
 company that is undergoing liquidation proceedings. Vsoft argues that
 Optibase failed to act in good faith during 2002 negotiations regarding a
 potential purchase of a controlling interest in Vsoft, which led to Vsofts
 entering into liquidation proceedings. Vsoft has demanded damages in the
 amount of $ 2,129 as well as the reimbursement of expenses, legal fees and
 applicable VAT. Based on facts known to Companys management and based on its
 legal advisors, it was deemed that such claim is without merit.                   
|            |                                                |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|            |                                                | From time to
 time, the Company is a party to claims arising in the ordinary course of its
 business operations. In the opinion of management, it is not anticipated that
 the settlement or resolution of any such matters, if any, will have a
 material adverse impact on the Companys financial condition, results of
 operations or cash flows.                                                                                                                                                                                                                                                                                         

F  27

---

---

OPTIBASE LTD. AND ITS SUBSIDIARY

|                                          
|------------------------------------------
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
|                                          
|U.S. dollars in thousands                 

NOTE 11:    OTHER EXPENSES, NET

|                            |  |                         |      |      |   |      |   |   |      |  
|--------------------------- |  | ----------------------- | ---- | ---- | - | ---- | - | - | ---- | -
|                            |  | Year ended December 31, |     
|                            |  |                         |     
|                            |  | 2005                    |      | 2006 |   | 2007 |  
|                            |  |                         |      |      |   |      |  
|                            |  |                         |      |      |   |      |   |   |      |  
|Impairment
 losses of V.Box |  | $                       | (622 | )    | $ | (173 | ) | $ | (325 | )
|                            |  |                         |      |      |   |      |   |   |      |  
|Other income
 (Loss)        |  |                         | -    |      |   | 2    |   |   | (2   | )
|                            |  |                         |      |      |   |      |   |   |      |  
|                            |  |                         |      |      |   |      |   |   |      |  
|                            |  | $                       | (622 | )    | $ | (171 | ) | $ | (327 | )
|                            |  |                         |      |      |   |      |   |   |      |  

|            |                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|----------- | --------------- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|NOTE 12:   | TAXES ON INCOME
|            |                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|            | a.              | Measurement
 of taxable income under the Income Tax (Inflationary Adjustments) Law, 1985:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|            |                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|            |                 | Results for
 tax purposes are measured in terms of earnings in NIS after certain
 adjustments for increases in the Israeli Consumer Price Index (CPI). As
 explained in Note 2b, the financial statements are measured in U.S. dollars.
 The difference between the annual change in the Israeli CPI and in the
 NIS/dollar exchange rate causes a further difference between taxable income
 and the income before taxes shown in the financial statements. In accordance
 with paragraph 9(f) of SFAS No. 109, the Company has not provided deferred
 income taxes on the difference between the functional currency and the tax
 bases of assets and liabilities.
|            |                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|            | b.              | Tax rates:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|            |                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|            |                 | Generally,
 Israeli companies are subject to Corporate Tax on their taxable income. On
 July 25, 2005, the Knesset (Israeli Parliament) approved the Law of the
 Amendment of the Income Tax Ordinance (No. 147), 2005, which prescribes,
 among others, a gradual decreased in the corporate tax rate in Israel to the
 following tax rates: in 2006 - 31%, in 2007 - 29%, in 2008 - 27%, in 2009 -
 26% and in 2010 and thereafter - 25%. However, the effective tax rate payable
 by a company which derives income from an approved enterprise (as further
 discussed below) may be considerably less.                                                          
|            |                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|            | c.              | Tax benefits
 under the Law for the Encouragement of Capital Investments, 1959 (the law):                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           
|            |                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|            |                 | The
 Companys production facilities have been granted the status of an Approved
 Enterprise under the law, for five separate investment programs, which were
 approved in February 1991, January 1994, April 1998, May 2000 and January
 2005. The Company completed its investments according to its first, second,
 third, forth and fifth programs on November 30, 1994, July 1, 1995, December
 31, 1999, October 2004 and December 2005, respectively.                                                                                                                                                                                                        
|            |                 |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|            |                 | According to
 the provisions of the law, the Company has elected the Alternative Package
 of Benefits - waiver of grants in return for tax benefits.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                

F  28

---

---

OPTIBASE LTD. AND ITS SUBSIDIARY

|                                          
|------------------------------------------
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
|                                          
|U.S. dollars in thousands                 

|            |                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|----------- | ----------------------- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|NOTE 12:   | TAXES ON INCOME (Cont.)
|            |                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|            |                         | According to
 the provisions of the law, income derived from the Approved Enterprise
 programs, under the  Alternative Package of Benefits, will be tax-exempt
 for a period of two years, commencing with the year in which the Company
 first earns taxable income and subject to corporate taxes at the reduced tax
 rate of 10%-25%, for an additional period of five to eight years (depending
 on the percentage of foreign investor ownership in the Company).                                                                                                                                                                                                                                                                                                                  
|            |                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|            |                         | The law also
 provides that an approved enterprise is entitled to accelerated depreciation
 on its property and equipment that are included in an approved enterprise
 program in the first five years of using the equipment.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|            |                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|            |                         | The period
 of tax benefits detailed above is limited to the earlier of 12 years from the
 commencement of production, or 14 years from receiving the approval (the
 years limitation does not apply to the exemption period).                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|            |                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|            |                         | If the
 retained tax-exempt income is distributed in a manner other than upon the
 complete liquidation of the Company, it would be taxed at the reduced
 corporate tax rate applicable to such profits (between 10%-25%). The Company
 has decided not to declare dividends out of such tax-exempt income.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                
|            |                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|            |                         | The tax
 benefits available to an approved enterprise are contingent upon the
 Companys fulfillment of the conditions stipulated in the Law, regulations
 published hereunder and the criteria set forth in the specific certificates
 of approval. In the event of failure to comply with these conditions, the
 benefits may be canceled and the Company may be required to refund the amount
 of the benefits, in whole or in part, including interest. As of December 31,
 2007 management believes that the Company is meeting all of the
 aforementioned conditions.                                                                                                                                                                                                                
|            |                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|            |                         | On April 1,
 2005, an amendment to the Investment Law came into effect (the Amendment)
 and has significantly changed certain provisions of the Investment Law. The
 Amendment limits the scope of enterprises which may be approved by the
 Investment Center by setting criteria for the approval of a facility as a
 Beneficiary Enterprise, such as provisions generally requiring that at
 least 25% of the Beneficiary Enterprise income will be derived from export.
 Additionally, the Amendment enacted major changes in the manner in which tax
 benefits are awarded under the Investment Law so that companies, that elect
 tax benefits under the Alternative package of benefits, no longer require
 Investment Center approval in order to qualify for tax benefits.
|            |                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|            |                         | However, the
 Investment Law provides that terms and benefits included in any certificate
 of approval already granted will remain subject to the provisions of the law
 as they were on the date of such approval. Therefore the Companys existing
 Approved Enterprise will generally not be subject to the provisions of the
 Amendment.                                                                                                                                                                                                                                                                                                                                                                                                                                             
|            |                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|            |                         | Should the
 Company derive income from sources other than the Approved Enterprise
 during the relevant period of benefits; such income will be taxable at the
 regular Israeli corporate tax rate.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       
|            |                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
|            |                         | Since the
 company has more than one approval or only a portion of its capital
 investments are approved, its effective tax rate is the result of a weighted
 average of the applicable rates.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             

F  29

---

---

OPTIBASE LTD. AND ITS SUBSIDIARY

|                                          
|------------------------------------------
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
|                                          
|U.S. dollars in thousands                 

|            |                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                 
|----------- | ----------------------- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|NOTE 12:   | TAXES ON INCOME (Cont.)
|            |                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                 
|            | d.                      | Tax
 assessments:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|            |                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                 
|            |                         | The Company
 has final tax assessments through the tax year 2001.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
|            |                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                 
|            |                         | On December
 27, 2007, the Company received from the Israeli Tax Authorities a Tax
 Assessment (the Assessment) based upon best judgment for the years
 2002-2003. According to the Assessment, the Tax Authorities reduced the
 Companys losses for tax purposes, for those years and imposed a tax
 obligation of approximately NIS 1,000 thousand (approximately $ 285). The
 Company has reservations with respect to various parts of such Assessment and
 filed an appeal with the Israeli Tax Authorities.                                                                        
|            |                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                 
|            |                         | On May 28,
 2008, the Company received from the Israeli Tax Authorities a Tax Assessment
 (the Second Assessment) based upon best judgment for the years 2004-2005.
 In the Second Assessment, the Tax Authorities reduced the Companys losses
 for tax purposes, for those years and imposed a tax obligation of
 approximately NIS 669 thousand (approximately $ 190). The Company has
 reservations with respect to various parts of the Second Assessment and
 intends to file an appeal with the Israeli Tax Authorities.                                                           
|            |                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                 
|            | e.                      | Tax benefits
 under the Law for the Encouragement of Industry (Taxation), 1969:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
|            |                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                 
|            |                         | The Law for
 the Encouragement of Industry (Taxes), 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 the income of which in a given tax year exclusive of income
 from specified government loans, capital gains, interest and dividends, is
 derived from an industrial enterprise owned by it. An industrial enterprise
 is defined as an enterprise whose major activity in a given tax year is
 industrial production activity.
|            |                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                 
|            |                         | Under the
 Industry Encouragement Law, industrial companies are entitled to a number of
 corporate tax benefits, including:                                                                                                                                                                                                                                                                                                                                                                                                                                                                   
|            |                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                 
|            |                         | 1)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             | Deduction of
 purchase of know-how and patents and/or right to use a patent over an
 eight-year period;                                                                                         
|            |                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                 
|            |                         | 2)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             | The right to
 elect, under specified conditions, to file a consolidated tax return with
 additional related Israeli industrial companies and an industrial holding
 company;                    
|            |                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                 
|            |                         | 3)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             | The right to
 elect, under specified conditions, to file a consolidated tax return with
 additional related Israeli industrial companies and an industrial holding
 company;                    
|            |                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                 
|            |                         | 4)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             | Accelerated
 depreciation rates on equipment and buildings.                                                                                                                                     
|            |                         |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |                                                                                                                                                                                                 
|            |                         | 5)                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             | Expenses
 related to a public offering on the Tel-Aviv stock exchange and as of January
 2003, on recognized stock markets outside of Israel, are deductible in equal
 amounts over three years.

F  30

---

---

OPTIBASE LTD. AND ITS SUBSIDIARY

|                                          
|------------------------------------------
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
|                                          
|U.S. dollars in thousands                 

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

| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| | -- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |    | 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 of commencing
  operations and the number of work shifts. An industrial company owning an
  approved enterprise may choose between these special depreciation rates and
  the depreciation rates available to the approved enterprise.
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| |    | Eligibility
  for benefits under the Industry Encouragement Law is not subject to receipt
  of prior approval from any governmental authority. No assurance can be given
  that the Israeli tax authorities will agree that we qualify, or, if we
  qualify, that we will continue to qualify as an industrial company or that
  the benefits described above will be available to us in the future.                                                             
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| | f. | Deferred
  income taxes:                                                                                                                                                                                                                                                                                                                                                                                                                                         
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| |    | Deferred
  income taxes reflect the net tax effects of temporary differences between the
  carrying amounts of assets and liabilities for financial reporting purposes
  and the amounts used for income tax purposes. Significant components of the
  Company and its subsidiarys deferred tax assets are as follows:                                                                                                                                          

|                                                    |  |              |         |      |   |         |  
|--------------------------------------------------- |  | ------------ | ------- | ---- | - | ------- | -
|                                                    |  | December 31, |        
|                                                    |  |              |        
|                                                    |  | 2006         |         | 2007 |  
|                                                    |  |              |         |      |  
|                                                    |  |              |         |      |   |         |  
|Operating
  loss carry forward                      |  | $            | 15,536  |      | $ | 16,773  |  
|Reserves and
  allowances                           |  |              | 9,364   |      |   | 8,730   |  
|                                                    |  |              |         |      |   |         |  
|                                                   
|Net deferred
  tax asset before valuation allowance |  |              | 24,900  |      |   | 25,503  |  
|Valuation
  allowance                               |  |              | (24,900 | )    |   | (25,358 | )
|                                                    |  |              |         |      |   |         |  
|                                                   
|Net deferred
  tax asset                            |  | $            | -       |      | $ | 145     |  
|                                                    |  |              |         |      |   |         |  

| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| | -- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| |    | The Company
  and its subsidiary have provided valuation allowances in respect of deferred
  tax assets resulting from tax loss carryforward and other temporary
  differences. Management currently believes that, since the Company and its
  subsidiary have a history of losses, it is more likely than not that the
  deferred tax regarding the loss carryforward and other temporary differences
  will not be realized in the foreseeable future. During 2007, the Company and
  its subsidiary increased the valuation allowance by approximately $ 458
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| | g. | Net
  operating losses carryforward:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| |    | Through
  December 31, 2007, Optibase Ltd. had a net operating losses carryforward for
  tax purposes in Israel of approximately $ 38,918 which may be carried forward
  and offset against taxable income in the future, for an indefinite period.                                                                                                                                                                                                                                                                                                             
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
| |    | As of
  December 31, 2007, Optibase Inc. had U.S. federal net operating loss
  carryforward of approximately $ 16,615 that can be carried forward and offset
  against taxable income for 20 years, no later than 2008 to 2023. Utilization
  of U.S. net operating losses may be subject to the substantial annual limitation
  due to the change in ownership provisions of the Internal Revenue Code of
  1986, and similar state provisions. The annual limitation may result in the
  expiration of net operating losses before utilization.             

F  31

---

---

OPTIBASE LTD. AND ITS SUBSIDIARY

|                                          
|------------------------------------------
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
|                                          
|U.S. dollars in thousands                 

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

| |    |                                                                                                                                                                                                                                                   
| | -- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | h. | Reconciliation
  of the theoretical tax expenses to the actual tax expenses:                                                                                                                                                                      
| |    |                                                                                                                                                                                                                                                   
| |    | A
  reconciliation between the theoretical tax expense, assuming all income is
  taxed at the statutory tax rate applicable to the income of the Company and
  the actual tax expense as reported in the statements of operations is as
  follows:

|                                                                                                                              |  |                         |        |   |   |        |   |   |        |  
|----------------------------------------------------------------------------------------------------------------------------- |  | ----------------------- | ------ | - | - | ------ | - | - | ------ | -
|                                                                                                                              |  | Year ended December 31, |       
|                                                                                                                              |  |                         |       
|                                                                                                                              |  |                         | 2005   |   |   | 2006   |   |   | 2007   |  
|                                                                                                                              |  |                         |        |   |   |        |   |   |        |  
|                                                                                                                             
|Loss before taxes as reported                                                                                                 |  | $                       | (2,195 | ) | $ | (3,135 | ) | $ | (4,301 | )
|                                                                                                                              |  |                         |        |   |   |        |   |   |        |  
|Theoretical tax benefit computed at the
  statutory rate (34%, 31% and 29% for the years 2005, 2006 and 2007,
  respectively) |  | $                       | (746   | ) | $ | (971   | ) | $ | (1,247 | )
|Tax adjustments in respect of currency
  translation                                                                          |  |                         | 283    |   |   | (303   | ) |   | (71    | )
|Income and other items for which a
  valuation allowance was provided                                                         |  |                         | 302    |   |   | 1,025  |   |   | 895    |  
|Current adjustment of FIN 48                                                                                                  |  |                         | -      |   |   | -      |   |   | 73     |  
|Other non-deductible expenses                                                                                                 |  |                         | 161    |   |   | 249    |   |   | 423    |  
|                                                                                                                              |  |                         |        |   |   |        |   |   |        |  
|Income tax expense                                                                                                            |  | $                       | -      |   | $ | -      |   | $ | 73     |  
|                                                                                                                              |  |                         |        |   |   |        |   |   |        |  

| |    |                                                         
| | -- | --------------------------------------------------------
| | i. | Loss before
  taxes on income consists of the following:

|         |  |                         |        |      |   |        |   |   |        |  
|-------- |  | ----------------------- | ------ | ---- | - | ------ | - | - | ------ | -
|         |  | Year ended December 31, |       
|         |  |                         |       
|         |  | 2005                    |        | 2006 |   | 2007   |  
|         |  |                         |        |      |   |        |  
|        
|Domestic |  | $                       | (2,072 | )    | $ | (4,727 | ) | $ | (4,135 | )
|Foreign  |  |                         | (1,373 | )    |   | 1,607  |   |   | (166   | )
|         |  |                         |        |      |   |        |   |   |        |  
|        
|         |  | $                       | (3,445 | )    | $ | (3,120 | ) | $ | (4,301 | )
|         |  |                         |        |      |   |        |   |   |        |  

F  32

---

---

OPTIBASE LTD. AND ITS SUBSIDIARY

|                                          
|------------------------------------------
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
|                                          
|U.S. dollars in
 thousands                

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

| |    |                                                                                                                                                                                                                                                                                                                                                                                  
| | -- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | j. | The Company
 adopted the provisions of FIN 48 on January 1, 2007. Prior to 2007, the
 Company used the provisions of SFAS 5 to determine tax contingencies. As of
 January 1, 2007 there was no material difference between the provisions under
 SFAS 109 and FIN 48, therefore there was no effect on the Companys
 shareholders equity upon the Companys adoption of FIN 48.
|
| |    | A
 reconciliation of the beginning and ending amount of unrecognized tax
 benefits is as follows:                                                                                                                                                                                                                                                                                

| |                                                       |  |                    |     |  | 
| | ----------------------------------------------------- |  | ------------------ | --- |  | 
| |                                                       |  | December 31,
 2007 |    
| |                                                       |  |                    |    
| |                                                       |  |                    |     | 
| | Gross
 unrecognized tax benefits at January 1, 2007   |  | $                  | -   | 
| | Adoption of
 FIN 48                                   |  |                    | 145 | 
| | Increase in
 tax positions for prior year             |  |                    | 73  | 
| |                                                       |  |                    |     | 
| |                                                       |  |                    |     | 
| | Gross
 unrecognized tax benefits at December 31, 2007 |  | $                  | 218 | 
| |                                                       |  |                    |     | 

| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | The Company
 conducts business globally and, as a result, the Company or its subsidiary
 files income tax returns in the U.S. federal jurisdiction and various states.
 In the normal course of business, the Company is subject to examination by
 taxing authorities such as Israel and the United States. With few exceptions,
 the Company is no longer subject to U.S. federal, state and local, or non-U.S.
 income tax examinations for years before 2003 and is no longer to Israeli
 examinations for years before 2001.

F  33

---

---

OPTIBASE LTD. AND ITS SUBSIDIARY

|                                                           
|-----------------------------------------------------------
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS                 
|                                                           
|U.S. dollars in
 thousands(except share and per share data)

|            |                     
|----------- | --------------------
|NOTE 13:   | SHAREHOLDERS EQUITY

| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   |                                                                                                                                                                                                                                                            
| | -- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | a. | General:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   |                                                                                                                                                                                                                                                            
| |    | 1.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                | The ordinary
 shares of the Company are traded on the NASDAQ Global Market since April
 1999.                                                                                                                                                              
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   |                                                                                                                                                                                                                                                            
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   | Ordinary
 shares confer on their holders the right to receive notice to participate and
 vote in general meetings of the Company, the right to a share in excess
 assets upon liquidation of the Company, and the right to receive dividends,
 if declared.
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   |                                                                                                                                                                                                                                                            
| |    | 2.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                | The
 Companys share capital consist of 13,473,868 and 13,641,257 issued and
 outstanding ordinary shares, as of December 31, 2006 and 2007, respectively.                                                                                                 
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   |                                                                                                                                                                                                                                                            
| | b. | Stock
 options:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   |                                                                                                                                                                                                                                                            
| |    | Since 1990,
 the Company has granted options to employees and directors to purchase
 ordinaryshares.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   |                                                                                                                                                                                                                                                            
| |    | In 1999, the
 Company adopted an Israeli Option Plan (1999 Israeli option plan), a U.S.
 Option Plan (1999 U.S. Option Plan) (collectively the 1999 plans). Under
 the terms of the above option plans, options may be granted to employees,
 officers, directors and various service providers of the Company and its
 subsidiary. Also, the options generally become exercisable monthly over a
 four-year period, commencing one year after date of the grant, subject to the
 continued employment of the employee. The options generally expire no later
 than seven years from the date of the grant.
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   |                                                                                                                                                                                                                                                            
| |    | In April
 2001, the Board of Directors of the Company approved the adoption of the 2001
 Non-Statutory Share Option Plan. Under the terms of this plan, options may be
 granted to available personnel, employees, directors and consultants. The
 options to be granted under the plan are limited to non-statutory options.
 The plan has terms similar to those contained under the 1999 U.S. Option
 Plan.                                                                                                                                                                                                   
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   |                                                                                                                                                                                                                                                            
| |    | On May 1,
 2003, the Board of Directors of the Company approved three years extension to
 the options granted under the 1994 share option agreement. At the same date,
 the Company adopted the Share Option Agreement 2003 in accordance with the
 amended Section 102 of Israels Income Tax Ordinance.                                                                                                                                                                                                                                                                                                      
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   |                                                                                                                                                                                                                                                            
| |    | The exercise price of the options granted
 under the plans may not be less than the nominal value of the shares into
 which such options are exercised. Any options, which are forfeited or
 cancelled before expiration, become available for future grants.                                                                                                                                                                                                                                                                                                                                                    
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   |                                                                                                                                                                                                                                                            
| |    | The total amount
 of options available for future grants as of December 31, 2007 was 1,466,649.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  

F  34

---

---

OPTIBASE LTD. AND ITS SUBSIDIARY

|                                                           
|-----------------------------------------------------------
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS                 
|                                                           
|U.S. dollars in
 thousands(except share and per share data)

|            |                             
|----------- | ----------------------------
|NOTE 13:   | SHAREHOLDERS EQUITY (Cont.)

| |                                                                                           
| | ------------------------------------------------------------------------------------------
| | A summary of
 the Companys stock option activity, and related information, is as follows:

| |                                                                 |  |                        |           |                                  |   |        |  |                                  |           |        |   |                                  |  |  |           |   |   |      | 
| | --------------------------------------------------------------- |  | ---------------------- | --------- | -------------------------------- | - | ------ |  | -------------------------------- | --------- | ------ | - | -------------------------------- |  |  | --------- | - | - | ---- | 
| |                                                                 |  | Year ended December 31 |          
| |                                                                 |  |                        |          
| |                                                                 |  | 2005                   |           | 2006                             |   | 2007   | 
| |                                                                 |  |                        |           |                                  |   |        | 
| |                                                                 |  | Amount                 |           | Weighted
 Average
 Exerciseprice |   | Amount |  | Weighted
 average
 exerciseprice |           | Amount |   | Weighted
 Average
 Exerciseprice | 
| |                                                                 |  |                        |           |                                  |   |        |  |                                  |           |        |   |                                  | 
| |                                                                 |  |                        |           |                                  |   |        |  |                                  |           |        |   |                                  |  |  |           |   |   |      | 
| | Outstanding at the beginning of the year                        |  |                        | 3,270,556 |                                  | $ | 5.59   |  |                                  | 3,235,705 |        | $ | 5.69                             |  |  | 2,209,922 |   | $ | 5.66 | 
| | Granted                                                         |  |                        | 620,250   |                                  | $ | 5.39   |  |                                  | 70,500    |        | $ | 3.26                             |  |  | 210,000   |   | $ | 3.72 | 
| | Exercised                                                       |  |                        | (147,013  | )                                | $ | 2.83   |  |                                  | (186,764  | )      | $ | 2.65                             |  |  | (86,892   | ) | $ | 2.55 | 
| | Forfeited                                                       |  |                        | (508,088  | )                                | $ | 5.22   |  |                                  | (909,519  | )      | $ | 6.33                             |  |  | (377,904  | ) | $ | 13   | 
| |                                                                 |  |                        |           |                                  |   |        |  |                                  |           |        |   |                                  |  |  |           |   |   |      | 
| |                                                                 |  |                        |           |                                  |   |        |  |                                  |           |        |   |                                  |  |  |           |   |   |      | 
| | Outstanding at the end of the year                              |  |                        | 3,235,705 |                                  | $ | 5.69   |  |                                  | 2,209,922 |        | $ | 5.66                             |  |  | 1,955,126 |   | $ | 4.19 | 
| |                                                                 |  |                        |           |                                  |   |        |  |                                  |           |        |   |                                  |  |  |           |   |   |      | 
| |                                                                 |  |                        |           |                                  |   |        |  |                                  |           |        |   |                                  |  |  |           |   |   |      | 
| | Exercisable options at the end of the
 year                     |  |                        | 1,858,733 |                                  | $ | 6.3    |  |                                  | 1,672,764 |        | $ | 5.88                             |  |  | 1,725,942 |   | $ | 4.08 | 
| |                                                                 |  |                        |           |                                  |   |        |  |                                  |           |        |   |                                  |  |  |           |   |   |      | 
| |                                                                 |  |                        |           |                                  |   |        |  |                                  |           |        |   |                                  |  |  |           |   |   |      | 
| | Options vested and expected to vest at
 end of year             |  |                        |           |                                  |   |        |  |                                  |           |        |   |                                  |  |  | 1,943,667 |   | $ | 4.18 | 
| |                                                                 |  |                        |           |                                  |   |        |  |                                  |           |        |   |                                  |  |  |           |   |   |      | 
| |                                                                 |  |                        |           |                                  |   |        |  |                                  |           |        |   |                                  |  |  |           |   |   |      | 
| | Weighted average fair value of options
 granted during the year |  |                        |           |                                  | $ | 2.47   |  |                                  |           |        | $ | 1.65                             |  |  |           |   | $ | 1.94 | 
| |                                                                 |  |                        |           |                                  |   |        |  |                                  |           |        |   |                                  |  |  |           |   |   |      | 

| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | The
 aggregate intrinsic value in the table above represents the total intrinsic
 value (the difference between the Companys closing stock price on the last
 trading day of the fiscal year 2007 and the exercise price, multiplied by the
 number of in-the-money options) that would have been received by the option
 holders had all option holders exercised their options on December 31, 2007.
 This amount changes based on the fair market value of the Companys stock. The total intrinsic value of options
 outstanding at December 31, 2007 was $ 891. The total intrinsic value of
 exercisable options at the end of the year was approximately $ 911. The total
 intrinsic value of options vested and expected to vest at December 31, 2007
 was approximately $ 862. The total intrinsic value of options exercised
 during the year ended December 31, 2007 was approximately $ 890.
| |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
| | As of
 December 31, 2007, there was $ 376 of total unrecognized compensation cost
 related to non-vested share-based compensation arrangements granted under the
 Companys stock option plans. That cost is expected to be recognized over a
 period of up to 3 years.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  

F  35

---

---

|                                                           
|-----------------------------------------------------------
|OPTIBASE LTD. AND ITS SUBSIDIARY                           
|                                                           
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS                 
|                                                           
|U.S. dollars in
 thousands(except share and per share data)

|            |                              |                                                                                                                 
|----------- | ---------------------------- | ----------------------------------------------------------------------------------------------------------------
|NOTE 13:   | SHAREHOLDERS EQUITY (Cont.)
|            |                              |                                                                                                                 
|            |                              | The options
 outstanding as of December 31, 2007, have been separated into ranges of
 exercise price as follows:

| |                       |  |                                          |           |                                                                |  |                               |  |                                         |      |                              |  |           |  |   |      | 
| | --------------------- |  | ---------------------------------------- | --------- | -------------------------------------------------------------- |  | ----------------------------- |  | --------------------------------------- | ---- | ---------------------------- |  | --------- |  | - | ---- | 
| | Range ofexerciseprice |  | Optionsoutstandingas ofDecember 31, 2007 |           | Weighted 
 average number
 of years
 remainingcontractual life |  | Weighted averageexerciseprice |  | Optionsexercisableas ofDecember 31,2007 |      | Weightedaverageexerciseprice | 
| |                       |  |                                          |           |                                                                |  |                               |  |                                         |      |                              | 
| |                       |  |                                          |           |                                                                |  |                               |  |                                         |      |                              |  |           |  |   |      | 
| | $2
 - $ 2.09          |  |                                          | 5,000     |                                                                |  | 1.7                           |  | $                                       | 2.05 |                              |  | 5,000     |  | $ | 2.05 | 
| | $2.38
 - $ 3.25       |  |                                          | 726,140   |                                                                |  | 2.15                          |  | $                                       | 2.61 |                              |  | 681,140   |  | $ | 2.57 | 
| | $3.72 - $ 4.9         |  |                                          | 239,500   |                                                                |  | 6.19                          |  | $                                       | 3.81 |                              |  | 233,612   |  | $ | 3.79 | 
| | $5.04
 - $ 5.93       |  |                                          | 805,486   |                                                                |  | 3.33                          |  | $                                       | 5.32 |                              |  | 667,190   |  | $ | 5.32 | 
| | $6
 - $ 6.638         |  |                                          | 179,000   |                                                                |  | 3.75                          |  | $                                       | 6.05 |                              |  | 139,000   |  | $ | 6.07 | 
| |                       |  |                                          |           |                                                                |  |                               |  |                                         |      |                              |  |           |  |   |      | 
| |                       |  |                                          | 1,955,126 |                                                                |  | 3.28                          |  | $                                       | 4.19 |                              |  | 1,725,942 |  | $ | 4.08 | 
| |                       |  |                                          |           |                                                                |  |                               |  |                                         |      |                              |  |           |  |   |      | 

| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
| | -- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | c. | Nonvested shares:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
| |    | In May 2006,
 the Board of Directors approved the adoption of the 2006 Israeli Incentive
 Compensation Plan (the 2006 Plan). The 2006 Plan provides for the grant of
 options, restricted shares and restricted share units in accordance with various
 Israeli tax tracks. The Company currently uses the 2006 Plan for the grant of
 restricted shares only. The restricted shares are granted at no consideration
 and with a vesting schedule of two years (50% each year). The restricted
 shares are granted in accordance with the Israeli capital gains tax track. The
 original number of ordinary shares available for grant under the 2006 Plan
 was 300,000 Shares and as of December 31, 2007 s an aggregate of 153,950
 ordinary shares has been reserved for issuance under the 2006 Plan.
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            
| |    | A summary of the status of the entitys
 nonvested shares as of December 31, 2007, and changes during the year ended
 December 31, 2007, is presented below:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               

| |                                 |  |        |         |                                          |   |      | 
| | ------------------------------- |  | ------ | ------- | ---------------------------------------- | - | ---- | 
| | Nonvested
 shares               |  | Shares |         | Weighted
 average grant
 date fair value |  
| |                                 |  |        |         |                                          |  
| |                                 |  |        |         |                                          |   |      | 
| | Non-vested at January 1, 2006   |  |        | -       |                                          | $ |      | 
| |                                 |  |        |         |                                          |   |      | 
| | Granted                         |  |        | 164,200 |                                          | $ | 3.38 | 
| | Vested                          |  |        | -       |                                          | $ | -    | 
| | Forfeited                       |  |        | (2,500  | )                                        | $ | 3.38 | 
| |                                 |  |        |         |                                          |   |      | 
| | Non-vested at December 31, 2006 |  |        | 161,700 |                                          | $ | 3.38 | 
| |                                 |  |        |         |                                          |   |      | 
| | Granted                         |  |        | 13,750  |                                          | $ | 3.95 | 
| | Vested                          |  |        | (76,900 | )                                        | $ | 3.38 | 
| | Forfeited                       |  |        | (21,900 | )                                        | $ | 3.38 | 
| |                                 |  |        |         |                                          |   |      | 
| |                                 |  |        |         |                                          |   |      | 
| | Non-vested at December 31, 2007 |  |        | 76,650  |                                          | $ | 3.48 | 
| |                                 |  |        |         |                                          |   |      | 

F  36

---

---

|                                                           
|-----------------------------------------------------------
|OPTIBASE LTD. AND ITS SUBSIDIARY                           
|                                                           
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS                 
|                                                           
|U.S. dollars in
 thousands(except share and per share data)

|            |                              |                                                                                                                                                                                                                                                           
|----------- | ---------------------------- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|NOTE 13:   | SHAREHOLDERS EQUITY (Cont.)
|            |                              |                                                                                                                                                                                                                                                           
|            |                              | As of December 31, 2007, there was
 $ 90 of total unrecognized compensation cost related to non-vested
 share-based compensation arrangements granted to employees under the Plan.
 That cost is expected to be recognized over a period of up to 2 years.
|            |                              |                                                                                                                                                                                                                                                           
|            |                              | The total equity-based compensation expense
 related to all of the Companys equity-based awards, recognized for the year
 ended December 31, 2007, was comprised as follows:                                                                             

| |                                                             |  |                          |      |      |   |       | 
| | ----------------------------------------------------------- |  | ------------------------ | ---- | ---- | - | ----- | 
| |                                                             |  | Year ended
 December 31, |     
| |                                                             |  |                          |     
| |                                                             |  | 2006                     |      | 2007 |  
| |                                                             |  |                          |      |      |  
|
| | Cost of goods sold                                          |  | $                        | 93   |      | $ | 133   | 
| | Research and development                                    |  |                          | 268  |      |   | 308   | 
| | Selling and marketing                                       |  |                          | 266  |      |   | 332   | 
| | General and administrative                                  |  |                          | 87   |      |   | 240   | 
| |                                                             |  |                          |      |      |   |       | 
| |                                                             |  |                          |      |      |   |       | 
| | Total equity-based compensation expense
 before taxes       |  | $                        | 714  |      | $ | 1,013 | 
| |                                                             |  |                          |      |      |   |       | 
| |                                                             |  |                          |      |      |   |       | 
| | Net equity-based compensation expense, per
 ordinary share: |  |                          |      |      |   |       | 
| | Basic and diluted                                           |  | $                        | 0.05 |      | $ | 0.07  | 
| |                                                             |  |                          |      |      |   |       | 

| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
| | -- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
| | d. | Warrants to
 consultants:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     
| |    |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               
| |    | In June
 2004, the Company has committed to grant warrants, in four equal
 installments, to consultants to purchase 85,000 ordinary shares of the
 Company at an exercise price of $ 4.97 per share. The warrants expired after
 20 months. During 2004 and 2005, the Company issued 42,500 and 42,500
 warrants under the 1999 Plans and recorded compensation expenses in the
 amount of $ 77 and $ 73, respectively. The Company had accounted for the
 warrants under the fair value method in accordance with SFAS No. 123 and EITF
 96-18 Accounting for Equity Instruments that are Issued to Other than
 Employees for Acquiring, or in Conjunction with Selling, Goods or Services.

F  37

---

---

OPTIBASE LTD. AND ITS SUBSIDIARY

|                                                            |                                            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|----------------------------------------------------------- | ------------------------------------------ | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS                 
|                                                           
|U.S. dollars in thousands (except share and per share data)
|                                                           
|NOTE 14:                                                   | GEOGRAPHIC INFORMATION AND MAJOR CUSTOMERS
|                                                            |                                           
|                                                            | a.                                         | Summary
 information about geographic areas:                                                                                                                                                                                                                                                                                                                                                                                                                    
|                                                            |                                            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|                                                            |                                            | The Company
 and its subsidiary operate in one reportable segment: solutions that enable
 preparation and delivery of digital video-based on MPEG and Windows Media TM
 over ATM, DVB, the Internet Protocol (IP) and other packet-based networks
 (see brief description in Note 1), and follow the requirements of Statement
 of Financial Accounting Standard No. 131, Disclosures about Segments of an
 Enterprise and Related Information (SFAS 131).
|                                                            |                                            |                                                                                                                                                                                                                                                                                                                                                                                                                                                                 
|                                                            |                                            | The
 following presents total revenues for the years ended December 31, 2005, 2006
 and 2007 and long-lived assets as of December 31, 2005, 2006 and 2007.                                                                                                                                                                                                                                                                                                      

|                           |  |                         |        |                       |   |                    |  |                       |        |                    |   |                       |  |   |        |  |   |       | 
|-------------------------- |  | ----------------------- | ------ | --------------------- | - | ------------------ |  | --------------------- | ------ | ------------------ | - | --------------------- |  | - | ------ |  | - | ----- | 
|                           |  | Year ended December 31, |       
|                           |  |                         |       
|                           |  | 2005                    |        | 2006                  |   | 2007               | 
|                           |  |                         |        |                       |   |                    | 
|                          
|                           |  | Total 
 revenues*)      |        | Long-
 lived 
 assets |   | Total 
 revenues*) |  | Long-
 lived 
 assets |        | Total 
 revenues*) |   | Long-
 lived 
 Assets | 
|                           |  |                         |        |                       |   |                    |  |                       |        |                    |   |                       | 
|                          
|Israel                     |  | $                       | 1,696  |                       | $ | 1,677              |  | $                     | 2,113  |                    | $ | 1,767                 |  | $ | 1,186  |  | $ | 1,823 | 
|North America              |  |                         | 9,681  |                       |   | 129                |  |                       | 8,168  |                    |   | 288                   |  |   | 10,813 |  |   | 186   | 
|Europe                     |  |                         | 4,568  |                       |   | -                  |  |                       | 3,210  |                    |   | -                     |  |   | 7,228  |  |   | -     | 
|Far East (excluding Japan) |  |                         | 2,047  |                       |   | -                  |  |                       | 3,501  |                    |   | -                     |  |   | 3,309  |  |   | -     | 
|Japan                      |  |                         | 1,229  |                       |   | -                  |  |                       | 843    |                    |   | -                     |  |   | 167    |  |   | -     | 
|Other                      |  |                         | 122    |                       |   | -                  |  |                       | 142    |                    |   | -                     |  |   | 274    |  |   | -     | 
|                           |  |                         |        |                       |   |                    |  |                       |        |                    |   |                       |  |   |        |  |   |       | 
|                           |  |                         |        |                       |   |                    |  |                       |        |                    |   |                       |  |   |        |  |   |       | 
|                           |  | $                       | 19,343 |                       | $ | 1,806              |  | $                     | 17,977 |                    | $ | 2,055                 |  | $ | 22,977 |  | $ | 2,009 | 
|                           |  |                         |        |                       |   |                    |  |                       |        |                    |   |                       |  |   |        |  |   |       | 

| |    |                                                                                  |                                                                      
| | -- | -------------------------------------------------------------------------------- | ---------------------------------------------------------------------
| |    | *)                                                                               | Revenues are
 attributed to countries based on end-customer location.
| |    |                                                                                  |                                                                      
| | b. | Total
 revenues from external customers per product line are divided as follows:

|                    |  |                         |        |      |   |        |  |   |        | 
|------------------- |  | ----------------------- | ------ | ---- | - | ------ |  | - | ------ | 
|                    |  | Year ended December 31, |       
|                    |  |                         |       
|                    |  | 2005                    |        | 2006 |   | 2007   | 
|                    |  |                         |        |      |   |        | 
|                   
|Video
 technologies |  | $                       | 15,316 |      | $ | 12,060 |  | $ | 8,923  | 
|IPTV                |  |                         | 4,027  |      |   | 5,917  |  |   | 14,054 | 
|                    |  |                         |        |      |   |        |  |   |        | 
|                    |  |                         |        |      |   |        |  |   |        | 
|                    |  | $                       | 19,343 |      | $ | 17,977 |  | $ | 22,977 | 
|                    |  |                         |        |      |   |        |  |   |        | 

| |                                                                                                                                       
| | --------------------------------------------------------------------------------------------------------------------------------------
| | At the year
 ended December 2007, the Company has one major customer whose revenues were
 approximately 13.6% from the total revenues.

F  38

---

---

OPTIBASE LTD. AND ITS SUBSIDIARY

|                                                           
|-----------------------------------------------------------
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS                 
|                                                           
|U.S. dollars in thousands (except share and per share data)

|            |                                                                                                                                                                                                                                    | 
|----------- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | 
|NOTE 15:   | RELATED PARTY TRANSACTIONS-                                                                                                                                                                                                       
|            |                                                                                                                                                                                                                                   
|            | The Company
 has signed sublease and distribution agreements with V. Box through December
 31, 2005. From January 2006 through December 2007, the company charged V. Box
 on quarterly basis, according to the sublease agreement.
|            |                                                                                                                                                                                                                                    | 
|            | The balances
 with and the revenues derived from related party were as follows:                                                                                                                                                   

| |    |                               |  |              |   |      |   |    | 
| | -- | ----------------------------- |  | ------------ | - | ---- | - | -- | 
| |    |                               |  | December 31, |  
| |    |                               |  |              |  
| |    |                               |  | 2006         |   | 2007 |  
| |    |                               |  |              |   |      |  
| | a. | Balances
 with related party: |  |              |   |      |   |    | 
| |    |                               |  |              |   |      |   |    | 
| |    | Trade
 receivables:           |  |              |   |      |   |    | 
| |    | V. Box                        |  | $            | - |      | $ | 15 | 
| |    |                               |  |              |   |      |   |    | 

| |                  |                                         |  |                         |     |      |   |      |  |   |     | 
| | ---------------- | --------------------------------------- |  | ----------------------- | --- | ---- | - | ---- |  | - | --- | 
| |                  |                                         |  | Year ended December 31, |    
| |                  |                                         |  |                         |    
| |                  |                                         |  | 2005                    |     | 2006 |   | 2007 | 
| |                  |                                         |  |                         |     |      |   |      | 
| | b.               | Revenues
 from related party:           |  |                         |     |      |   |      |  |   |     | 
| |                  |                                         |  |                         |     |      |   |      |  |   |     | 
| |                  | V. Box                                  |  | $                       | 253 |      | $ | 101  |  | $ | 9   | 
| |                  |                                         |  |                         |     |      |   |      |  |   |     | 
| |                  |                                         |  |                         |     |      |   |      |  |   |     | 
| |                  | Sublease
 payment received from related |  |                         |     |      |   |      |  |   |     | 
| | c.               | party:                                  |  |                         |     |      |   |      |  |   |     | 
| |                  |                                         |  |                         |     |      |   |      |  |   |     | 
| |                  | V. Box                                  |  | $                       | 52  |      | $ | 54   |  | $ | 50  | 
| |                  |                                         |  |                         |     |      |   |      |  |   |     | 
| |                  |                                         |  |                         |     |      |   |      |  |   |     | 
| | d.               | Purchases
 from related party:          |  |                         |     |      |   |      |  |   |     | 
| |                  |                                         |  |                         |     |      |   |      |  |   |     | 
| |                  | Scopus                                  |  | $                       | -   |      | $ | -    |  | $ | 99  | 
| |                  | V. Box                                  |  | $                       | 270 |      | $ | 280  |  | $ | 213 | 
| |                  |                                         |  |                         |     |      |   |      |  |   |     | 
|
| | See also Note 6. |                                         |  |                         |     |      |   |      |  |   |    

F  39

---

---

OPTIBASE LTD. AND ITS SUBSIDIARY

|                                          
|------------------------------------------
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
|                                          
|U.S. dollars in thousands                 

|             |                                       |                                                                       |  |                         |        |      |   |        |   |   |        |  
|------------ | ------------------------------------- | --------------------------------------------------------------------- |  | ----------------------- | ------ | ---- | - | ------ | - | - | ------ | -
|NOTE 16:    | SELECTED STATEMENT OF OPERATIONS DATA |                                                                       |  |                         |        |      |   |        |   |   |       
|             |                                       |                                                                       |  |                         |        |      |   |        |   |   |        |  
|             | a.                                    | Research and
  development, net:                                      |  |                         |        |      |   |        |   |   |        |  
|             |                                       |                                                                       |  |                         |        |      |   |        |   |   |        |  
|             |                                       |                                                                       |  | Year ended December 31, |       
|             |                                       |                                                                       |  |                         |       
|             |                                       |                                                                       |  | 2005                    |        | 2006 |   | 2007   |  
|             |                                       |                                                                       |  |                         |        |      |   |        |  
|             |                                       |                                                                       |  |                         |        |      |   |        |   |   |        |  
|             |                                       | Total research and development costs                                  |  | $                       | 6,067  |      | $ | 6,059  |   | $ | 7,143  |  
|             |                                       | Less - grants and participation                                       |  |                         | (2,066 | )    |   | (1,851 | ) |   | (1,781 | )
|             |                                       |                                                                       |  |                         |        |      |   |        |   |   |        |  
|             |                                       |                                                                       |  |                         |        |      |   |        |   |   |        |  
|             |                                       |                                                                       |  | $                       | 4,001  |      | $ | 4,208  |   | $ | 5,362  |  
|             |                                       |                                                                       |  |                         |        |      |   |        |   |   |        |  
|             |                                       |                                                                       |  |                         |        |      |   |        |   |   |        |  
|             | b.                                    | Allowance for doubtful accounts:                                      |  |                         |        |      |   |        |   |   |        |  
|             |                                       |                                                                       |  |                         |        |      |   |        |   |   |        |  
|             |                                       | Balance at beginning of year                                          |  | $                       | 573    |      | $ | 307    |   | $ | 313    |  
|             |                                       | Increase (decrease) during the year                                   |  |                         | (12    | )    |   | 78     |   |   | 56     |  
|             |                                       | Write-off of bad debts                                                |  |                         | (254   | )    |   | (72    | ) |   | (2     | )
|             |                                       |                                                                       |  |                         |        |      |   |        |   |   |        |  
|             |                                       |                                                                       |  |                         |        |      |   |        |   |   |        |  
|             |                                       | Balance at the end of year                                            |  | $                       | 307    |      | $ | 313    |   | $ | 367    |  
|             |                                       |                                                                       |  |                         |        |      |   |        |   |   |        |  
|             |                                       |                                                                       |  |                         |        |      |   |        |   |   |        |  
|             | c.                                    | Financial income:                                                     |  |                         |        |      |   |        |   |   |        |  
|             |                                       |                                                                       |  |                         |        |      |   |        |   |   |        |  
|             |                                       | Financial income (expenses):                                          |  |                         |        |      |   |        |   |   |        |  
|             |                                       | Interest                                                              |  | $                       | 2,456  |      | $ | 1,602  |   | $ | 804    |  
|             |                                       | Realized gains on sale of
  available-for-sale marketable securities  |  |                         | 36     |      |   | 10     |   |   | 733    |  
|             |                                       |                                                                       |  |                         |        |      |   |        |   |   |        |  
|             |                                       |                                                                       |  |                         |        |      |   |        |   |   |        |  
|             |                                       |                                                                       |  |                         | 2,492  |      |   | 1,612  |   |   | 1,537  |  
|             |                                       |                                                                       |  |                         |        |      |   |        |   |   |        |  
|             |                                       | Financial expenses:                                                   |  |                         |        |      |   |        |   |   |        |  
|             |                                       | Interest                                                              |  |                         | (200   | )    |   | (164   | ) |   | (359   | )
|             |                                       | Foreign currency translation adjustments                              |  |                         | (279   | )    |   | (1     | ) |   | (104   | )
|             |                                       | Realized losses on sale of
  available-for-sale marketable securities |  |                         | -      |      |   | (42    | ) |   | (523   | )
|             |                                       | Impairment of marketable securities                                   |  |                         | (430   | )    |   | -      |   |   | (582   | )
|             |                                       |                                                                       |  |                         |        |      |   |        |   |   |        |  
|             |                                       |                                                                       |  |                         |        |      |   |        |   |   |        |  
|             |                                       |                                                                       |  |                         | (909   | )    |   | (207   | ) |   | (1,568 | )
|             |                                       |                                                                       |  |                         |        |      |   |        |   |   |        |  
|             |                                       |                                                                       |  |                         |        |      |   |        |   |   |        |  
|             |                                       |                                                                       |  | $                       | 1,583  |      | $ | 1,405  |   | $ | (31    | )
|             |                                       |                                                                       |  |                         |        |      |   |        |   |   |        |  

F  40

---

---

OPTIBASE LTD. AND ITS SUBSIDIARY

|                                                           
|-----------------------------------------------------------
|NOTES TO CONSOLIDATED FINANCIAL STATEMENTS                 
|                                                           
|U.S. dollars in thousands (except share and per share data)

|             |                                               |                                                                                                                                   |  |                         |          |      |   |          |   |   |          |  
|------------ | --------------------------------------------- | --------------------------------------------------------------------------------------------------------------------------------- |  | ----------------------- | -------- | ---- | - | -------- | - | - | -------- | -
|NOTE 16:    | SELECTED STATEMENT OF OPERATIONS DATA (Cont.) |                                                                                                                                  
|             |                                               |                                                                                                                                   |  |                         |          |      |   |          |   |   |          |  
|             | d.                                            | Net earnings
  (loss) per share:                                                                                                  |  |                         |          |      |   |          |   |   |          |  
|             |                                               |                                                                                                                                   |  |                         |          |      |   |          |   |   |          |  
|             |                                               | The
  following table sets forth the computation of basic and diluted net earnings
  (loss) per share from continuing operations: | 
|             |                                               |                                                                                                                                   |  |                         |          |      |   |          |   |   |          |  
|             |                                               |                                                                                                                                   |  | Year ended December 31, |         
|             |                                               |                                                                                                                                   |  |                         |         
|             |                                               |                                                                                                                                   |  | 2005                    |          | 2006 |   | 2007     |  
|             |                                               |                                                                                                                                   |  |                         |          |      |   |          |  
|             |                                               | Numerator for basic and diluted net
  earnings (loss) per share:                                                                  |  |                         |          |      |   |          |   |   |          |  
|             |                                               | Loss from continuing operations                                                                                                   |  | $                       | (1,374   | )    | $ | (3,135   | ) | $ | (7,143   | )
|             |                                               |                                                                                                                                   |  |                         |          |      |   |          |   |   |          |  
|             |                                               | Income (loss) from discontinued
operations                                                                                        |  | $                       | (2,071   | )    | $ | 15       |   | $ | (30      | )
|             |                                               |                                                                                                                                   |  |                         |          |      |   |          |   |   |          |  
|             |                                               |                                                                                                                                   |  |                         |          |      |   |          |   |   |          |  
|             |                                               | Net loss available to ordinary
shareholders                                                                                       |  | $                       | (3,445   | )    | $ | (3,120   | ) | $ | (7,173   | )
|             |                                               |                                                                                                                                   |  |                         |          |      |   |          |   |   |          |  
|             |                                               |                                                                                                                                   |  |                         |          |      |   |          |   |   |          |  
|             |                                               | Denominator:                                                                                                                      |  |                         |          |      |   |          |   |   |          |  
|             |                                               | Denominator for basic net loss per
  share-weighted average number of ordinary shares (in thousands)                              |  |                         | 13,188   |      |   | 13,431   |   |   | 13,602   |  
|             |                                               |                                                                                                                                   |  |                         |          |      |   |          |   |   |          |  
|             |                                               | Effect of dilutive securities:                                                                                                    |  |                         |          |      |   |          |   |   |          |  
|             |                                               | Employee stock options (in thousands)                                                                                             |  |                         | *)     - |      |   | *)     - |   |   | *)     - |  
|             |                                               |                                                                                                                                   |  |                         |          |      |   |          |   |   |          |  
|             |                                               |                                                                                                                                   |  |                         |          |      |   |          |   |   |          |  
|             |                                               | Denominator for diluted net loss per share
  - adjusted weighted average number of shares (in thousands)                          |  |                         | 13,188   |      |   | 13,431   |   |   | 13,602   |  
|             |                                               |                                                                                                                                   |  |                         |          |      |   |          |   |   |          |  
|             |                                               |                                                                                                                                   |  |                         |          |      |   |          |   |   |          |  
|             |                                               | *)       Antidilutive.                                                                                                            |  |                         |          |      |   |          |   |   |          |  

|            |                                                                                                                                                                                                                                                     
|----------- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|NOTE 17:   | SUBSEQUENT EVENTS (UNAUDITED)                                                                                                                                                                                                                       
|            |                                                                                                                                                                                                                                                     
|            | In June
  2008, Company issued 2,816,901 ordinary shares in a private placement to its
  President, Chief Executive Officer Executive and Chairman of the Board of
  Directors in consideration for $5,000. The closing occurred on June 18,
  2008.

F  41

---

---

| | Brightman Almagor Zohar
1 Azrieli Center
Tel Aviv 67021
P.O.B. 16593, Tel Aviv 61164
Israel
Tel: +972 (3) 608 5555
Fax: +972 (3) 609 4022
info@deloitte.co.il
www.deloitte.com
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

# INDEPENDENT
AUDITORS REPORT

To the Shareholders of
V.Box Communication Ltd.

We have audited the accompanying
balance sheet of V.Box Communication Ltd. (the Company) as of December 31,
2007, and the related statement of operations, changes in shareholders deficiency
and cash flows for the year then ended. These financial statements are the responsibility
of the Companys management. Our responsibility is to express an opinion on these
financial statements based on our audit.

The Companys financial
statements as of December 31, 2006 and for year then ended, were audited by other auditors
whose report dated June 19, 2007 expressed an unqualified opinion.

We conducted our audit in accordance
with the standards of the Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain reasonable assurance about
whether the financial statements are free of material misstatement. The Company is not
required to have, nor were we engaged to perform, an audit of its internal control over
financial reporting. Our audit included consideration of internal control over financial
reporting as a basis for designing audit procedures that are appropriate in the
circumstances, but not for the purpose of expressing an opinion on the effectiveness of
the Companys internal control over financial reporting. Accordingly, we express no
such opinion. An audit also includes examining, on a test basis, evidence supporting the
amounts and disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, as well as evaluating the overall
financial statements presentation. We believe that our audit provides a reasonable basis
for our opinion.

In our opinion, the financial
statements referred to above present fairly, in all material respects, the financial
position of the Company as of December 31, 2007, and the results of its operations and its
cash flows for the year ended December 31, 2007 in conformity with accounting principles
generally accepted in the United States of America.

The accompanying financial statements
have been prepared assuming that the Company will continue as a going concern. As
discussed in Note 1B to the financial statements, the Company has incurred recurring
operating losses and has a negative cash flow from operating activities. These conditions
raise substantial doubt about the Companys ability to continue as a going concern.
The financial statements do not include any adjustments to reflect the possible future
effects on the recoverability and classification of assets or the amounts and
classification of liabilities that may result from the outcome of this uncertainty.

|/s/ Brightman Almagor Zohar & Co.
Brightman Almagor Zohar & Co.Certified Public Accountants |  | 
|--------------------------------------------------------------------------------------------------------- |  | 

Tel Aviv, Israel
June 26, 2008



---

---

# SCOPUS VIDEO NETWORKS
LTD.

# CONSOLIDATED FINANCIAL
STATEMENTS

# AS OF DECEMBER 31, 2007

# (In thousands of U.S.
dollars)



---

---

# SCOPUS VIDEO NETWORKS LTD.

# INDEX TO CONSOLIDATED
FINANCIAL STATEMENTS

|                                                        | Page    
|------------------------------------------------------- | --------
|
|
|
|
|Report of independent registered public accounting firm | F-2     
|                                                       
|Consolidated balance sheets                             | F-3     
|                                                       
|Consolidated statements of operations                   | F-4     
|                                                       
|Statement of shareholders' equity                       | F-5     
|                                                       
|Consolidated statements of cash flows                   | F-6     
|                                                       
|Notes to the consolidated financial statements          | F-7-F-24



---

---

| | Brightman Almagor
1 Azrieli Center
Tel Aviv 67021
P.O.B. 16593, Tel Aviv 61164
Israel
Tel: +972 (3) 608 5555
Fax: +972 (3) 609 4022
info@deloitte.co.il
www.deloitte.com
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------

# REPORT OF INDEPENDENT
REGISTERED PUBLIC ACCOUNTING FIRM

# To the Board of
Directors and Shareholders ofScopus Video Networks
Ltd.

We have audited the accompanying
consolidated balance sheets of Scopus Video Networks Ltd.and its subsidiary
(the Company) as of December 31, 2007 and 2006 and the related consolidated
statements of operations, shareholders equity and cash flows, for each of the three
years in the period ended December 31, 2007. 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 standards of the Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain reasonable assurance about
whether the financial statements are free of material misstatement. The Company is not
required to have, nor were we engaged to perform, an audit of its internal control over
financial reporting. Our audit included consideration of internal control over financial
reporting as a basis for designing audit procedures that are appropriate in the
circumstances, but not for the purpose of expressing an opinion on the effectiveness of
the Companys internal control over financial reporting. Accordingly, we express no
such opinion. An audit also includes examining, on a test basis, evidence supporting the
amounts and disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, as well as evaluating the overall
financial statements presentation. We believe that our audits provide a reasonable basis
for our opinion.

In our opinion, the consolidated
financial statements referred to above present fairly, in all material respects, the
financial position of Scopus Video Networks Ltd. and its subsidiary as of December 31,
2007 and 2006, and the results of its operations, and its cash flows for each of the three
years in the period ended December 31, 2007, in conformity with accounting principles
generally accepted in the United States of America.

/s/ Brightman Almagor & Co.Certified Public Accountants
A member firm of Deloitte Touche Tohmatsu
Tel Aviv, Israel
April 14, 2008

F - 2

---

---

SCOPUS VIDEO NETWORKS LTD.
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands, except share and per share data)

|                                                         | December 31
|-------------------------------------------------------- | -----------
|
|
|
|
|ASSETS                                                   |            
|Current assets                                           |            
|Cash and cash equivalents                                |            
|Short-term deposits                                      |            
|Marketable securities                                    |            
|Trade accounts receivable (net of allowance for doubtful |            
|accounts of $152 and $428, respectively)                 |            
|Inventories (Note 3)                                     |            
|Other receivables and current assets (Note 4)            |            
|                                                         |            
|                                                         |            
|                                                         |            
|                                                         |            
|Fixed assets, net (Note 5)                               |            
|                                                         |            
|                                                         |            
|Deposits in general severance fund (Note 8(2))           |            
|                                                         |            
|                                                         |            
|Other assets (Note 6)                                    |            
|                                                         |            
|                                                         |            
|                                                         |            
|LIABILITIES AND SHAREHOLDERS' EQUITY                     |            
|Current liabilities                                      |            
|Trade accounts payable                                   |            
|Other payables and current liabilities (Note 7)          |            
|                                                         |            
|                                                         |            
|                                                         |            
|                                                         |            
|Liabilities for vacation and severance pay (Note 8)      |            
|                                                         |            
|                                                         |            
|Commitments and contingent liabilities (Note 9)          |            
|Shareholders' equity (Note 11)                           |            
|Ordinary shares, NIS 1.4 par value; authorized           |            
|66,071,428 shares at December 31,                        |            
|2007 and 2006; issued and outstanding 13,926,907         |            
|and 13,358,333 shares at December 31, 2007 and 2006,     |            
|respectively                                             |            
|Additional paid-in-capital                               |            
|Other comprehensive income                               |            
|Accumulated deficit                                      |            
|                                                         |            
|                                                         |            
|                                                         |            
|                                                         |            
|                                                         |            

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

F - 3

---

---

SCOPUS VIDEO NETWORKS LTD.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Dollars in thousands, except share and per share data)

|                                                        | Year ended December 31,
|------------------------------------------------------- | -----------------------
|
|
|
|
|Revenues                                                |                        
|                                                        |                        
|Cost of revenues                                        |                        
|                                                        |                        
|                                                        |                        
|Gross profit                                            |                        
|                                                        |                        
|Research and development expenses,                      |                        
|net of participation by OCS of $2,345                   |                        
|$1,680 and $1,865, respectively                         |                        
|                                                        |                        
|Sales and marketing expenses                            |                        
|                                                        |                        
|General and administrative expenses                     |                        
|                                                        |                        
|                                                        |                        
|Operating loss                                          |                        
|                                                        |                        
|Financing income, net                                   |                        
|                                                        |                        
|                                                        |                        
|Loss before income taxes                                |                        
|                                                        |                        
|Income tax expense (Note 13)                            |                        
|                                                        |                        
|                                                        |                        
|Net loss for the year                                   |                        
|                                                        |                        
|                                                        |                        
|Net loss                                                |                        
|                                                        |                        
|Dividend on preferred shares (Note 11A(2)a)             |                        
|                                                        |                        
|                                                        |                        
|Net loss attributable to ordinary shares                |                        
|                                                        |                        
|                                                        |                        
|Basic and diluted net loss per ordinary share (Note 14) |                        
|                                                        |                        

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

F - 4

---

---

SCOPUS VIDEO NETWORKS LTD.
STATEMENT OF SHAREHOLDERS' EQUITY
(Dollars in thousands, except share and per share data)

|                                                               | Ordinary
Shares | Series A
Preferred
shares | Series B
Preferred
shares | Additional
paid-in
capital | Other
comprehensive
income from
derivatives | Deferred
Stock-based
compensation | Accumulated
deficit | Total
|-------------------------------------------------------------- | --------------- | ------------------------- | ------------------------- | -------------------------- | ------------------------------------------- | --------------------------------- | ------------------- | -----
|
|
|
|
|Balance - January 1, 2005                                      |                 |                           | $                         | 1,078                      |                                             | $                                 | 696                 |      
|Exercise of share options                                      |                 |                           |                           | 4                          |                                             |                                   | -                   |      
|Stock-based compensation - grant of share options to employees |                 |                           |                           | -                          |                                             |                                   | -                   |      
|Amortization of deferred stock-based compensation              |                 |                           |                           | -                          |                                             |                                   | -                   |      
|Conversion of preferred shares into ordinary shares            |                 |                           |                           | 1,783                      |                                             |                                   | (696                | )    
|Proceeds from issuance of ordinary shares to the public        |                 |                           |                           | 1,376                      |                                             |                                   | -                   |      
|Cost related to issuance of ordinary shares to the public      |                 |                           |                           | -                          |                                             |                                   | -                   |      
|Net loss for the year                                          |                 |                           |                           | -                          |                                             |                                   | -                   |      
|                                                               |                 |                           |                           |                            |                                             |                                   |                     |      
|Balance - December 31, 2005                                    |                 |                           | $                         | 4,241                      |                                             | $                                 | -                   |      
|Exercise of share options                                      |                 |                           |                           | 81                         |                                             |                                   | -                   |      
|Initial adoption of SFAS 123R                                  |                 |                           |                           | -                          |                                             |                                   | -                   |      
|Amortization of deferred stock-based compensation              |                 |                           |                           | -                          |                                             |                                   | -                   |      
|Cost related to issuance of ordinary shares to the public      |                 |                           |                           | -                          |                                             |                                   | -                   |      
|Net loss for the year                                          |                 |                           |                           | -                          |                                             |                                   | -                   |      
|                                                               |                 |                           |                           |                            |                                             |                                   |                     |      
|Balance - December 31, 2006                                    |                 |                           | $                         | 4,322                      |                                             | $                                 | -                   |      
|Exercise of share options                                      |                 |                           |                           | 195                        |                                             |                                   | -                   |      
|Amortization of deferred stock-based compensation              |                 |                           |                           | -                          |                                             |                                   | -                   |      
|Accumulated gain from derivatives                              |                 |                           |                           | -                          |                                             |                                   | -                   |      
|Net loss for the year                                          |                 |                           |                           | -                          |                                             |                                   | -                   |      
|                                                               |                 |                           |                           |                            |                                             |                                   |                     |      
|Balance - December 31, 2007                                    |                 |                           | $                         | 4,517                      |                                             | $                                 | -                   |      
|                                                               |                 |                           |                           |                            |                                             |                                   |                     |      

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

F - 5

---

---

SCOPUS VIDEO NETWORKS LTD.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands, except share and per share data)

|                                                              | Year ended December 31,
|------------------------------------------------------------- | -----------------------
|
|
|
|
|Cash Flows - Operating Activities                             |                        
|Net loss for the year                                         |                        
|Depreciation                                                  |                        
|Increase (Decrease) in severance pay liability, net           |                        
|Increase in vacation pay liability                            |                        
|Amortization of deferred stock-based compensation             |                        
|Decrease (increase) in trade accounts receivable, net         |                        
|Decrease (Increase) in inventories                            |                        
|Decrease (increase) in other receivables and current assets   |                        
|Decrease (increase) in other assets                           |                        
|Increase in trade accounts payable                            |                        
|Increase (decrease) in other payables and current liabilities |                        
|                                                              |                        
|Net cash provided by (used in) operating activities           |                        
|                                                              |                        
|                                                              |                        
|Cash Flows - Investing Activities                             |                        
|Increase in short-term deposits                               |                        
|Increase in marketable securities                             |                        
|Purchase of fixed assets                                      |                        
|Proceeds from disposal of fixed assets                        |                        
|                                                              |                        
|Net cash used in investing activities                         |                        
|                                                              |                        
|                                                              |                        
|Cash Flows - Financing Activities                             |                        
|Proceeds from exercise of options                             |                        
|Issuance of ordinary shares to the public                     |                        
|Cost of Issuance of ordinary shares to the public             |                        
|Repayment of long-term liabilities                            |                        
|                                                              |                        
|Net cash provided by financing activities                     |                        
|                                                              |                        
|                                                              |                        
|Increase (decrease) in cash and cash equivalents              |                        
|Cash and cash equivalents at beginning of the year            |                        
|                                                              |                        
|Cash and cash equivalents at end of the year                  |                        
|                                                              |                        
|                                                              |                        
|Supplemental information:                                     |                        
|Interest paid in cash                                         |                        
|                                                              |                        
|Taxes paid in cash                                            |                        
|                                                              |                        
|                                                              |                        
|Non cash transactions:                                        |                        
|Issuance costs of initial public offering                     |                        
|                                                              |                        

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

F - 6

---

---

SCOPUS VIDEO NETWORKS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except share and per share data)

# NOTE 1  GENERAL

| | Scopus
Video Networks Ltd., an Israeli corporation, and its wholly  owned subsidiary in
the United States of America, Scopus Video Networks Inc. (SVNI), (together
the Company) provide digital video networking platforms that allow network
operators and content providers to transmit, process and manage digital video content.
The Company operates in one operating and reporting segment.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

# NOTE 2 
SIGNIFICANT ACCOUNTING POLICIES

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

| | A. | Functional
currency and translation in foreign currencies
| | -- | ---------------------------------------------------------

| | The
currency of the primary economic environment in which the Company operates is the U.S.
dollar (dollar). Accordingly, the Company uses the dollar as its functional
and reporting currency.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Transactions
and balances denominated in dollars are presented at their dollar amounts. Non-dollar
transactions and balances are re-measured into dollars in accordance with the principles
set forth in Statement of Financial Accounting Standards (SFAS) No. 52, Foreign
Currency Translation. All exchange gains and losses from re-measurement of monetary
balance sheet items resulting from transactions in non-dollar currencies are included in
net financing income as they arise.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | B. | Principles
of consolidation
| | -- | ---------------------------

| | The
consolidated financial statements include the financial statements of Scopus Video
Networks Ltd. and SVNI, after elimination of material inter-company transactions and
balances.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | C. | Use
of estimates
| | -- | ----------------

| | The
preparation of financial statements in conformity with generally accepted accounting
principles requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities as well as the disclosure of contingent assets and
liabilities as of the date of the financial statements, and the reported amounts of
revenues and expenses during the reporting periods. Actual results may differ from those
estimates.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

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

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

| | E. | Short
term Deposits
| | -- | -------------------

| | Short-term
bank deposits are deposits with maturities of more than three months but less than one
year. The short-term deposits are presented at their cost and include accrued interest.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | F. | Marketable
securities
| | -- | ---------------------

| | The
Company accounts for investments in marketable securities in accordance with SFAS No.
115, Accounting for Certain Investments in Debt and Equity Securities (SFAS
115). Management determines the appropriate classification of its investments in
marketable debt securities at the time of purchase and reevaluates such determinations at
each balance sheet date. Marketable securities are classified as trading securities. The
securities are stated at fair value, with unrealized gains and losses recorded as
financing income or expense.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | G. | Allowance
for doubtful accounts
| | -- | -------------------------------

| | The
allowance for doubtful accounts is computed, for specific accounts, which, in managements
estimate, are doubtful of collection.
| | ------------------------------------------------------------------------------------------------------------------------------------

F - 7

---

---

SCOPUS VIDEO NETWORKS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except share and per share data)

# NOTE 2 
SIGNIFICANT ACCOUNTING POLICIES (cont.)

| | H. | Inventories
| | -- | -----------

| | Inventories
are stated at the lower of cost or market. Cost is determined for raw materials and
finished products purchased from third parties on the basis of moving average cost per
unit. Cost is determined for work in process and finished products on the basis of
standard cost, which approximates actual production cost. The Company assesses on a
quarterly basis the value of its inventory and determines whether it needs to record an
inventory write-down. The Company also assesses its inventories for obsolescence based on
historical consumption and assumptions about future demand and market conditions.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Finished
products used for demonstration purposes are amortized over the period on which the
products are under demonstration (generally, six months). Abnormal amounts of idle
facility expense, freight, handling costs, and wasted material (spoilage) are recognized
as current-period charges. In addition, allocation of fixed production overheads to the
costs of conversion are based on the normal capacity of the production facilities.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | I. | Fixed
assets
| | -- | ------------

| | Fixed
assets are stated at cost less accumulated depreciation. Depreciation is calculated based
on the straight-line method over the estimated economic lives of the assets, as follows:
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |                                   | Years
| | --------------------------------- | -----
|
|
|
|
| | Office equipment and furniture    | 4-10 
| | Machinery, hardware and equipment | 3-5  
| | Software                          | 3-4  
| | Leasehold improvements            | 3-10 

| | Leasehold
improvements are amortized on a straight-line basis over the shorter of the estimated
useful lives of the assets or the remaining term of the lease (including the period of
renewal options that on management estimation it is probable that the Company will
exercise).
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | J. | Impairment
of assets
| | -- | --------------------

| | Management
reviews long-lived assets on a periodic basis, as well as when such a review is required
based upon relevant circumstances, to determine whether events or changes in
circumstances indicate that the carrying amount of such assets may not be recoverable. An
impairment charge would be recognized, and the long-lived assets would be impaired to
their estimated fair values, in the event that the sum of the expected undiscounted
future cash flows associated with the long-lived assets is less than the carrying amount
of such assets.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | K. | Revenue
recognition
| | -- | -------------------

| | (1) | The
Company recognizes revenues from products upon delivery in accordance with           SAB
101, as amended by SAB 104, provided that persuasive evidence of an           arrangement
exists, the fee is fixed or determinable, and collectibility is           reasonably
assured. In instances where final acceptance of the product or system           is
material and specified by the customer, revenue is deferred until all           material
acceptance criteria are met. In instances in which the Company enters           into
transactions that represent multiple-deliverable arrangements with elements
          including products, maintenance, installation or training, the Company
          implements the guidance of EITF No. 00-21 Revenue Arrangements with
          Multiple Deliverables (EITF 00-21), according to which
          multiple-deliverable arrangements are assessed to determine whether they can be
          separated into more than one unit of accounting. A multiple- deliverable
          arrangement is separated into more than one unit of accounting if all of the
          following criteria are met:
| | --- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | n | The
delivered item has value to the client on a stand-alone basis.
| | - | ------------------------------------------------------------------

| | n | There
is an objective and reliable evidence of the fair value of the undelivered items.
| | - | ---------------------------------------------------------------------------------------

| | n | If
the arrangement includes a general right of return relative to the delivered items,
delivery or performance of the undelivered items is considered probable and substantially
in the control of the Company.
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 8

---

---

SCOPUS VIDEO NETWORKS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except share and per share data)

# NOTE 2 
SIGNIFICANT ACCOUNTING POLICIES (cont.)

| | K. | Revenue
recognition (cont.)
| | -- | ---------------------------

| | If
not all of these criteria are met, then revenue is deferred until such criteria are met
or until the last undelivered element is delivered, unless the undelivered element is
considered inconsequential or perfunctory. If there is an objective and reliable evidence
of fair value for all units of accounting in a multi-deliverable arrangement, the
arrangement consideration is allocated to the separate units of accounting based on each
units relative fair value. However, in cases in which there is an objective and
reliable evidence for the fair value of the undelivered items in the arrangements but no
such evidence for the delivered items, the Company uses the residual method to allocate
the arrangement consideration.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
Companys business arrangements include licensing of management system software.
Since this software component is considered incidental to the arrangement as a whole, the
Company does not apply the accounting guidance prescribed in SOP 97-2 Software
Revenue Recognition.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | (2) | Service
revenues from product maintenance agreements are recognized ratably           over the
service period. Service revenues from installation and training are           recognized
when the service is rendered.
| | --- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | (3) | Revenue
from long-term contracts is recognized in accordance with SOP 81-1           Accounting
for Performance of Construction-Type and Certain           Production-Type Contracts under
the percentage-of-completion method on the           basis of actual costs incurred
relative to total expected costs under the           contract. Revisions in estimates of
costs to be invested are reflected in the           accounting period in which the
circumstances that require the revision become           known. At the time a loss on a
contract is known, the entire amount of the           estimated loss is accrued. Amounts
received from customers in excess of revenues           earned under the
percentage-of-completion method are deferred and recorded as           advance payments
from customers. Related contract costs include all direct           material and labor
costs and the related indirect costs, and are included in           costs of sales in the
consolidated statements of operations.
| | --- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | (4) | An
accrual for estimated returns, computed primarily on the basis of historical
          experience, is recorded at the time when revenues are recognized.
| | --- | -----------------------------------------------------------------------------------------------------------------------------------------------------------

| | L. | Research
and development
| | -- | ------------------------

| | Research
and development costs are charged to operations as incurred. Amounts received or
receivable from the government of Israel and others, as participation in research and
development programs, are offset against these costs. The accrual for grants receivable
is determined based on the terms of the programs, provided that the criteria for
entitlement have been met.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | M. | Derivative
financial instruments
| | -- | --------------------------------

| | SFAS
133 requires that all derivatives be recorded in the financial statements at their fair
value at the date of the financial statements. The changes in the fair value of the
derivatives are charged to the statement of operations unless designated as hedging item
in a cash flows hedge at which time changes are classified in other comprehensive income,
to the extent effective. The Company, from time to time, enters into foreign exchange
agreements (mainly forward contracts and options) to reduce the overall exposure of
currency exchange rate fluctuations on non-dollar projected cash flows. Gains and losses
resulting from changes in the fair values of derivative instruments are recorded in other
comprehensive income as a separate component of shareholders equity, if and only if all
the criteria of hedging accounting as set in SFAS 133 are met. Gains and losses resulting
from changes in the fair values of derivative instruments for non-hedging purpose are
recorded as financing income or expense.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | N. | Provision
for warranty
| | -- | ----------------------

| | The
warranty provision is computed on the basis of past experience as well as management
estimates.
| | ---------------------------------------------------------------------------------------------------

F - 9

---

---

SCOPUS VIDEO NETWORKS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except share and per share data)

# NOTE 2 
SIGNIFICANT ACCOUNTING POLICIES (cont.)

| | O. | Income
taxes
| | -- | ------------

| | (1) | Income
taxes are computed in accordance with SFAS 109 (Accounting for           Income
Taxes) of the FASB. Accordingly, deferred tax assets or liabilities           are
recognized for the estimated future tax effects attributable to temporary
          differences between income tax bases of assets and liabilities and their
          reported amounts in the financial statements, and to carry-forwards for tax
          losses and deductions. Deferred taxes are computed at enacted tax rates
expected           to be in effect when such temporary differences are realized, as they
are known           as of the balance sheet date. Deferred tax assets and liabilities are
classified           as current or non-current according to the classification of the
related asset           or liability, or the expected reversal date of the specific
temporary           difference, if not related to a specific asset or liability.
| | --- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | (2) | The
Company has sustained losses both for financial reporting and tax reporting
          purposes. Accordingly, it is not considered more-likely-than-not that the
          Company will be able to realize net deferred tax assets, which have arisen as a
          result of its carry-forward losses and net benefits arising from temporary
          differences. Therefore, the Company has recorded a valuation allowance for the
          full amount of such benefits.
| | --- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | P. | Net
loss per ordinary share
| | -- | ---------------------------

| | Basic
and diluted net losses per ordinary share have been computed in accordance with SFAS 128
Earnings per Share based on the weighted average number of ordinary shares
outstanding.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | All
outstanding stock options have been excluded from the calculation of the diluted loss per
share since their effect is anti-dilutive.
| | ----------------------------------------------------------------------------------------------------------------------------------------

| | Q. | Stock-based
compensation
| | -- | ------------------------

| | In
December 2004, the Financial Accounting Standards Board (FASB) revised Statement of
Financial Accounting Standards No. 123 (SFAS 123R), Share-Based Payment,which
establishes accounting for share-based awards exchanged for employee services and
requires companies to expense the estimated fair value of these awards over the requisite
employee service period.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Under
SFAS 123R, share-based compensation cost is measured at the grant date, based on the
estimated fair value of the award, and is recognized as expense over the employees
requisite service period. The Company has no awards with market or performance
conditions. The Company adopted the provisions of SFAS 123R on January 1, 2006, the
first day of the Companys fiscal year 2006, using a modified prospective
application, which provides for certain changes to the method for valuing share-based
compensation. Under the modified prospective application, prior periods are not revised
for comparative purposes. The valuation provisions of SFAS 123R apply to new awards and
to awards that were outstanding on the effective date and subsequently modified or
cancelled. Estimated compensation expense for awards outstanding at the effective date
are recognized over the remaining service period using the compensation cost calculated
for pro forma disclosure purposes under FASB Statement No. 123, Accounting for
Stock-Based Compensation (SFAS 123).
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | For
purposes of estimating fair value in accordance with SFAS 123R, the Company utilized the
Black-Scholes option-pricing model.
| | --------------------------------------------------------------------------------------------------------------------------------

| | In
March 2005, the Securities and Exchange Commission issued Staff Accounting Bulletin No.
107 (SAB 107). SAB 107 provides supplemental implementation guidance on SFAS
123R, including guidance on valuation methods, inventory capitalization of share-based
compensation cost, income statement effects, disclosures and other issues. SAB 107
requires share-based payment to be classified in the same expense line items as cash
compensation.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 10

---

---

SCOPUS VIDEO NETWORKS
LTD. NOTES TO THE
CONSOLIDATED FINANCIAL STATEMENTS (Dollars in thousands,
except share and per share data)

# NOTE 2 
SIGNIFICANT ACCOUNTING POLICIES (cont.)

| | Q. | Stock-based
compensation (cont.)
| | -- | --------------------------------

| | The
following assumptions were utilized in such calculations for the years ended December 31,
2007 and 2006 (all in weighted averages):
| | ---------------------------------------------------------------------------------------------------------------------------------------

| |                              | Year ended December
31, 2007 | Year ended December
31, 2006
| | ---------------------------- | ---------------------------- | ----------------------------
|
|
|
|
| | Risk free interest rate      | 4.17% - 4.66%                | 4.39%                       
| | Post vesting forfeiture rate | 8%                           | 9.30%                       
| | Volatility                   | 46.54% - 49.34%              | 67.52%                      
| | Dividend yield               | None                         | None                        

| | Total
estimated  share-based  compensation  expense,  related to all of the Company's
                     share-based  awards,  recognized  for the years ended December 31,
2007 and 2006, was                      comprised as follows:
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |                                        | Year ended
December 31, 2007 | Year ended
December 31, 2006
| | -------------------------------------- | ---------------------------- | ----------------------------
|
|
|
|
| | Cost of revenues                       |                              |                             
| | Research and development expenses      |                              |                             
| | Sales and marketing expenses           |                              |                             
| | General and administrative expenses    |                              |                             
| |                                        |                              |                             
| | Total Share-based compensation expense |                              |                             
| |                                        |                              |                             

| | Prior
to adopting the provisions of SFAS 123R, the Company recorded estimated compensation
expense for employee stock options based upon their intrinsic value on the date of grant
pursuant to Accounting Principles Board Opinion 25 (APB 25), Accounting for Stock
Issued to Employees and provided the required pro forma disclosures of SFAS 123.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | For
purposes of pro forma disclosures under SFAS 123 and 148 for the year ended December 31,
2005, the estimated fair value of the stock options was assumed to be amortized to
expense over the stock options vesting periods. The pro forma effects of
recognizing estimated compensation expense under the fair value method on net income and
earnings per common share for the year ended December 31, 2005 was as follows:
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |                                               | Year ended
December 31
| | --------------------------------------------- | ----------------------
|
|
|
|
| | Net loss for the year as reported             |                       
| | Adjustments:                                  |                       
| | Add:                                          |                       
| | Stock-based compensation expense              |                       
| | determined under the intrinsic value method   |                       
| | Deduct:                                       |                       
| | Stock-based compensation expense              |                       
| | determined under the fair value method        |                       
| |                                               |                       
| |                                               |                       
| | Pro forma net loss for the year               |                       
| |                                               |                       
| | Basic and diluted net loss per ordinary share |                       
| | - as reported                                 |                       
| |                                               |                       
| | Basic and diluted net loss per ordinary share |                       
| | - pro forma                                   |                       
| |                                               |                       

F - 11

---

---

SCOPUS VIDEO NETWORKS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except share and per share data)

# NOTE 2 
SIGNIFICANT ACCOUNTING POLICIES (cont.)

| | Q. | Stock-based
compensation (cont.)
| | -- | --------------------------------

| | The
pro forma effects of estimated share-based compensation expense on loss and loss per
ordinary share for the year ended December 31, 2005 estimated at the date of grant using
the Black & Scholes option-pricing model based on the following assumptions
(annualized percentages):
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |                         | Year ended
December 31,
| | ----------------------- | -----------------------
|
|
|
|
| | Volatility              | 0.00%                  
| | Risk-free interest rate | 4.10%                  
| | Dividend yield          | None                   
| | Expected life (years)   | 10                     

| | R. | Recently
issued accounting pronouncements
| | -- | -----------------------------------------

| | (1) | SFAS
No.157 "Fair Value Measurements"
| | --- | -------------------------------------

| | In
September 2006, the FASB issued Statement of Financial Accounting Standards No. 157,
Fair Value Measurements (SFAS 157). SFAS 157 defines fair value,
establishes a framework for measuring fair value in accordance with generally accepted
accounting principles, and expands disclosures about fair value measurements; however, it
does not require any new fair value measurements. SFAS 157 is effective for fiscal years
beginning after November 15, 2007 (January 1, 2008, for the Company). Earlier
application is encouraged, provided that the reporting entity has not yet issued
financial statements for that fiscal year, including any financial statements for an
interim period within that fiscal year. The Company does not expect the adoption of FASB
No. 157 to have a material impact on its consolidated financial statements.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | (2) | SFAS
No.159 "Fair Value Option for Financial Assets and Financial LiabilitiesIncluding
| | --- | ----------------------------------------------------------------------------------------

| | In
February 2007, the FASB issued FASB No. 159, The Fair Value Option for Financial Assets
and Financial LiabilitiesIncluding an Amendment of FASB Statement No. 115. This
standard permits an entity to choose to measure many financial instruments and certain
other items at fair value. Most of the provisions in FASB No. 159 are elective; however,
the amendment to FASB No. 115, Accounting for Certain Investments in Debt and Equity
Securities, applies to all entities with available-for-sale and trading securities. The
fair value option established by FASB No. 159 permits all entities to choose to measure
eligible items at fair value at specified election dates. A business entity will report
unrealized gains and losses on items for which the fair value option has been elected in
earnings (or another performance indicator if the business entity does not report
earnings) at each subsequent reporting date. The fair value option: (a) may be applied
instrument by instrument, with a few exceptions, such as investments otherwise accounted
for by the equity method; (b) is irrevocable (unless a new election date occurs); and (c)
is applied only to entire instruments and not to portions of instruments. FASB No. 159 is
effective as of the beginning of an entitys first fiscal year that begins after
November 15, 2007. The Company does not expect the adoption of FASB No. 159 to have a
material impact on its consolidated financial statements.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 12

---

---

SCOPUS VIDEO NETWORKS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except share and per share data)

# NOTE 2 
SIGNIFICANT ACCOUNTING POLICIES (cont.)

| | R. | Recently
issued accounting pronouncements (cont.)
| | -- | -------------------------------------------------

| | (3) | SFAS
No.141 "Business Combinations"
| | --- | -----------------------------------

| | In
December 2007, the FASB issued FASB 141(R), Business Combinations of which
the objective is to improve the relevance, representational faithfulness, and
comparability of the information that a reporting entity provides in its financial
reports about a business combination and its effects. The new standard requires the
acquiring entity in a business combination to recognize all (and only) the assets
acquired and liabilities assumed in the transaction; establishes the acquisition-date
fair value as the measurement objective for all assets acquired and liabilities assumed.
The new standard requires the acquirer to disclose to investors and other users all of
the information they need to evaluate and understand the nature and financial effect of
the business combination. The Company does not expect the adoption of FASB No. 141(R) to
have a material impact on its consolidated financial statements.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | S. | Initial
adoption of new standards:
| | -- | ----------------------------------

| | FIN
No .48 "Accounting for Uncertainty in income Taxes"
| | -------------------------------------------------------

| | In
July 2006, the FASB issued FASB Interpretation No. 48, Accounting for Uncertainty
in Income Taxes, an interpretation of FASB Statement No. 109" (FIN 48). FIN 48
clarifies the accounting for uncertainty in income taxes by prescribing the recognition
threshold a tax position is required to meet before being recognized in the financial
statements. It also provides guidance on de-recognition, classification, interest and
penalties, accounting in interim periods, disclosure, and transition. FIN 48 is effective
for fiscal years beginning after December 15, 2006 and was adopted by the Company in
2007. The adoption of FIN 48 did not have a material impact on its consolidated results
of operations and financial condition.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 13

---

---

SCOPUS VIDEO NETWORKS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except share and per share data)

# NOTE 3  INVENTORIES

| |                                                   | December 31,
| | ------------------------------------------------- | ------------
|
|
|
|
| | Raw materials                                     |             
| | Finished products                                 |             
| | Finished products used for demonstration purposes |             
| |                                                   |             
| |                                                   |             
| |                                                   |             

| | In
the years ended December 31, 2007, 2006 and 2005, the Company wrote down inventories in
the amounts of $1,197, $705 and $499, respectively.
| | ----------------------------------------------------------------------------------------------------------------------------------------------

# NOTE 4  OTHER
RECEIVABLES AND CURRENT ASSETS

| |                         | December 31,
| | ----------------------- | ------------
|
|
|
|
| | Government institutions |             
| | Advances to suppliers   |             
| | Prepaid expenses        |             
| | Other                   |             
| |                         |             
| |                         |             
| |                         |             

# NOTE 5  FIXED ASSETS,
NET

| |                                   | December 31,
| | --------------------------------- | ------------
|
|
|
|
| | Cost:                             |             
| | Office equipment and furniture    |             
| | Machinery, hardware and equipment |             
| | Software                          |             
| | Vehicles                          |             
| | Leasehold improvements            |             
| |                                   |             
| |                                   |             
| |                                   |             
| |                                   |             
| | Accumulated depreciation          |             
| |                                   |             
| | Net book value                    |             
| |                                   |             

F - 14

---

---

SCOPUS VIDEO NETWORKS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except share and per share data)

# NOTE 6  OTHER
ASSETS

| |                              | December 31,
| | ---------------------------- | ------------
|
|
|
|
| | Prepaid expense - long term  |             
| | Deposits for rent agreements |             
| |                              |             
| |                              |             
| |                              |             

# NOTE 7  OTHER PAYABLES
AND CURRENT LIABILITIES

| |                                        | December 31,
| | -------------------------------------- | ------------
|
|
|
|
| | Accrued vacation and employee benefits |             
| | Institutions - payroll related         |             
| | Customer advances                      |             
| | Accrual for warranty and repairs       |             
| | Accrued royalties                      |             
| | Accrued commissions to sales agents    |             
| | Deferred revenue                       |             
| | Accrued expenses and other             |             
| |                                        |             
| |                                        |             
| |                                        |             
| |                                        |             

# NOTE 8 
LIABILITIES FOR VACATION AND SEVERANCE PAY

| | Composition:
| | ------------

| |                                 | December 31,
| | ------------------------------- | ------------
|
|
|
|
| | Liability for vacation pay (1)  |             
| | Liability for severance pay (2) |             
| |                                 |             
| |                                 |             
| |                                 |             
| |                                 |             

| | (1) | This
portion of the Companys liability for vacation pay is not expected to
               be paid during the year subsequent to the balance sheet date. The
liability for                vacation pay, which is expected to be paid during the year
subsequent to the                balance sheet date, is included in current liabilities.
| | --- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | (2) | The
liability for severance pay reflects the amounts due in accordance with
               existing labor agreements. The liability has been computed in accordance
with                the period of employment and the employees most recent salary.
The                liability for severance pay covers the Companys entire
obligation as of                the balance sheet date, except for liabilities covered by
payments to insurance                policies and pension funds. Deposits in general
severance fund in the amount of                $230 and $204 (including accumulated
profits) as of December 31, 2007 and 2006,                respectively, are presented as
long-term assets. Insurance policies and pension                funds may be withdrawn
subject to the fulfillment of the requisite conditions                set forth under the
Severance Pay Law  1963. Amounts paid to insurance                policies and
pension funds and the related liabilities are not presented in the                Companys
balance sheet, as these are not under the control of the                Companys
management.
| | --- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 15

---

---

SCOPUS VIDEO NETWORKS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except share and per share data)

# NOTE 9 
COMMITMENTS AND CONTINGENT LIABILITIES

| | A. | Contingent
liabilities
| | -- | ----------------------

| | (1) | As
of December 31, 2007 the Company has provided several bank guarantees in the
          total amount of $309 to guarantee performance on contracts with customers, and
          other bank guarantees in the total amount of $546.
| | --- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | (2) | In
November 2004, one of the Companys suppliers filed a monetary           claim
against the Company and its chairman in the amount of $150 with respect to
          services allegedly provided by the supplier. According to the claim, the
Company           owe the supplier monies for consulting services provided by him on the
year of           2003. In December 2004 the Company submitted a statement of defense and
a cross           action in the amount of $140. On November 11, 2007, a judgment was
rendered,           according to which the Company were obligated to pay the supplier the
amount of           approximately $99.1 and grant the supplier an option to purchase
8,260 of the           Company ordinary shares. The Company filed an appeal to the
district court           regarding the judgment rendered against the Company, including
all its           components and statements. In May 2006, the same supplier filed a
second claim           against the Company and its chairman in the approximate amount of
$800.           According to the claim, the Company owe the supplier monies for
consulting           services provided by him on the years 2004-2005. In light of the
undesirable           outcome of the first claim and the suppliers intention to
file another           lawsuit in respect to amounts allegedly owned for the year 2006,
on March 19,           2008 the Company signed a settlement agreement with the supplier,
without           admitting any claim what so ever, under which the Company paid the
supplier $650           and granted the supplier an option to purchase 28,410 of the
Companys           ordinary shares, in return for a final and complete dismissal of
both claims.           The settlement agreement was finalized on April 9, 2008. The
Companys           management believes that the consolidated financial statements
as of December           31, 2007 include an adequate provision for this claim.
| | --- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | B. | Commitments
| | -- | -----------

| | (1) | The
Company is committed to pay royalties to the Office of the Chief Scientist           of
the Israeli Ministry of Commerce and Trade (OCS), on proceeds           from
sales of products with respect to which the OCS has participated in           research
and development, up to the amounts of grants received by the Company           plus
interest. The royalties are payable at a rate of 3.5% of applicable sales.           The
total amounts of grants received, net of royalties paid or accrued, at           December
31, 2007 was $9,963. Royalty expenses to the OCS in 2007, 2006 and 2005           were
$992, $781 and $1,039, respectively.
| | --- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | (2) | Within
the framework of agreements for product development, the Company is           committed
to pay royalties to third parties on future sales of the products           resulting
from that development. Royalty expenses from these agreements in 2007,           2006 and
2005 were $398, $130 and $33, respectively.
| | --- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 16

---

---

SCOPUS VIDEO NETWORKS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except share and per share data)

# NOTE 9 
COMMITMENTS AND CONTINGENT LIABILITIES (cont.)

| | B. | Commitments
(cont.)
| | -- | -------------------

| | (3) | Lease
commitments
| | --- | -----------------

| | In
November 2001, the Company moved to a new building in Rosh Haayin (Israel) on a
44,500 sq. feet (4000-sq.m) site. The lease contract was for a five-year period with an
extension option for an additional ten years on a year-to-year basis. On June 17,2004
the Company signed a new lease contract on the same site, which replaced the old
agreement and extended the lease period until May 2008. Based on the terms of the new
agreement, the Company has an option to extend the period until May 2011. In addition to
the above lease contract, on June 17,2004, the Company signed another lease
agreement for additional 2,000 sq. feet (180-sq.m) site in the same location in Israel
under similar conditions as described above.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | On
October 18, 2006 the Company signed a new lease contract on 54,478 sq. feet (4,903 sq.
m.) at the same site described above. The new contract effective from June 1, 2006 till
May 31, 2011.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | On
April 1, 2007, the Company signed a new lease contract of 1,633 sq. feet (147 sq. meters)
at the same site described above. The new contract is effective from April 1 2007 till
May 31, 2011.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
Company has a sales office located in Princeton (New Jersey) in a 3,800 sq. feet facility
with a lease that expired in December 2005. On November 16, 2005 the Company agreed with
the same landlord to lease a new facility in New Jersey. The new lease contract is for
7,350 sq. feet for a five- year period with an extension option of additional five years.
The Company maintains smaller, regional sales offices in Moscow (Russia), Mumbai (India),
and Beijing (China).
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | At
December 31, 2007, the aggregate future minimum lease obligations (sales offices and
motor vehicles) under all non-cancelable leases agreements were as follows:
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------

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

# NOTE 10  FINANCIAL
INSTRUMENTS

| | The
Companys financial instruments consist of non-derivative assets and non-derivative
liabilities. Non-derivative assets include cash and cash equivalents, short-term deposits
and marketable securities, trade accounts receivable, and other receivables and current
assets. Non-derivative liabilities include trade accounts payable, and other payables and
current liabilities. Due to the short-term nature of these financial instruments, their
fair value is usually identical or close to the value at which they are presented in the
financial statements.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 17

---

---

SCOPUS VIDEO NETWORKS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except share and per share data)

# NOTE 11  SHARE CAPITAL

| | A. | 
| | -- | 

| | (1) | Ordinary
shares
| | --- | ---------------

| | Shareholders
of the ordinary shares are entitled to participate equally in the distribution of cash
dividends and bonus shares. In case of liquidation these shareholders would be entitled
to a proportionate share in the distribution of assets following the payment of all
liabilities. Each ordinary share is entitled to an equal voting right in all matters to
be voted on by Companys shareholders.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Prior
to the IPO the Company had 15,357,143 authorized shares. On December 6, 2005, the Companys
shareholders general meeting resolved to increase its authorized shares to a total of
60,000,000. On December 16, 2005 the Company completed an initial public offering (IPO)
on the NASDAQ National Market. As part of this offering the Company: (i) effected a
one-for-two and eight tenths reverse share split (every 2.8 shares were converted into 1
share); (ii) converted all preferred shares into ordinary shares by ratios described in 3
below, (iii) changed the par value per share to NIS 1.4 (from NIS 0.5, coincident with
2.8 ratio); and (iv) sold 4,500,000 shares to the public. The price per share in the IPO
was $7 per share and total proceeds net of underwriters commission were $29,295
(before deduction of issuance costs).
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | (2) | Preferred
shares conversion to ordinary shares
| | --- | ----------------------------------------------

| | Each
series A and B preferred share was eligible to be converted at any time into ordinary
shares. In December 2005 all preferred shares were converted before the IPO into ordinary
shares using a conversion ratio in accordance with the articles of Association of the
Company as described below:
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | a) | Each
Series A preferred share was converted to 1.169 ordinary shares.
| | -- | ---------------------------------------------------------------------

| | b) | Each
          Series B preferred share was converted to 0.884 ordinary shares.
| | -- | -------------------------------------------------------------------------------

F - 18

---

---

SCOPUS VIDEO NETWORKS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except share and per share data)

# NOTE 11  SHARE CAPITAL
(cont.)

| | B. | Share
option plans
| | -- | ------------------

| | (1) | First
Plan
| | --- | ----------

| | In
1997, the Companys Board of Directors approved a share option plan for the
allotment of up to 131,620 options, to be granted to employees. Each option was
exercisable, for no consideration, into one ordinary share. As of December 31, 2007,
128,056 options were exercised into ordinary shares and 3,564 options were forfeited.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | (2) | Second
Plan
| | --- | -----------

| | In
October 2000 the Companys Board of Directors approved a second employee share
option plan for the allotment of up to 295,530 options. Each option is exercisable into
one ordinary share, in exchange for a fixed exercise price of $2.8 per share.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
options vest at dates set forth in the plan, over a three-year period commencing at the
end of one year of employment after the vesting commencement date. The exercise period
expires six years from the date of grant. In December 2004 the Companys Board of
Directors approved an extension of the exercise period from six years to ten years.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
options allotted and the shares exercised thereof are to be held by a trustee in
accordance with Section 102 (old version) of the Israeli Income Tax Ordinance.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | In
September 2003, some unvested options, which had been granted under this plan, were
exchanged for new options with the same conditions as the previous options, but subject
to the capital gains tax method according to Section 102 (new version) of the Israeli
Income Tax Ordinance. As of December 31, 2007, 72,771 options were exercised into
ordinary shares and 165,317 options are outstanding.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | (3) | Third
plan
| | --- | ----------

| | In
September 2001 the Companys Board of Directors approved a third share option plan,
under which employees, directors and suppliers of the Company (as well as related
companies) would be allotted options to acquire Company ordinary shares.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | In
September 2003, some unvested options, which have been granted under this plan, were
exchanged for new options with the same conditions as the previous options, but subject
to capital gains tax method according to Section 102 (new version) of the Israeli Income
Tax Ordinance.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | Each
option is exercisable into one ordinary share, under such conditions as set forth in the
grant agreement in exchange for a fixed exercise price to be determined on the grant
date. The exercise period expires ten years from the grant date.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | These
options generally vest 25% on the first anniversary after the vesting commencement date
and 6.25% each quarter over the 3 years following the first anniversary.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | In
June 2005, the Companys Board of Directors approved to increase the ordinary shares
reserved for future allocations under this plan to 2,608,131 shares. In June 2005 the
Company granted 816,693 options under this plan with an exercise price of $2.8 per share,
and resulting in a deferred stock-based compensation in the amount of $1,235 that was
determined based on a contemporaneous valuation preformed by an unrelated valuation
specialist.
| | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | In
October 27, 2005, the Companys Board of Directors approved a grant of 89,286
options with an exercise price of $7.84 per share, which reflects the fair market value
of the Companys ordinary shares based on a contemporaneous valuation performed by
an unrelated valuation specialist. In addition, the Companys Board of Directors
also approved on that date to increase the ordinary shares reserved for future
allocations by 212,291, to a total of 2,820,422 shares under this plan, with the
increased amount of options to be granted to the Chairman of the Companys Board of
Directors. The options shall vest proportionally on a monthly basis over 28 months,
commencing on September 1, 2005 and the exercise price of the options shall be $7.84 per
share, which reflects the fair market value of the Companys ordinary shares based
on a contemporaneous valuation performed by an unrelated valuation specialist.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 19

---

---

SCOPUS VIDEO NETWORKS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except share and per share data)

# NOTE 11  SHARE CAPITAL
(cont.)

| | B. | Share
option plans (cont.)
| | -- | --------------------------

| | (3) | Third
plan (cont.)
| | --- | ------------------

| | On
November 17, 2005, the Companys shareholders general meeting approved this
allotment. In November 2005 the Companys Board of Directors approved to increase
the ordinary shares reserved for future allocations under this plan by 2,500,000 shares,
to a total of 5,392,284 shares effective upon consummation of the Companys IPO.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | During
2006 the Company granted 815,037 options under this plan at an exercise price equal to
share market price on grant date. All these options expire in 5 years, except 80,000
options that was granted to Directors that expire 10 years from grant date.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | On
May 11, 2006 the Board of Directors approved two changes to the terms of 89,286 options
which were granted on October 27, 2005. The exercise price was reduced from $7.84 to $5.2
which was the market price on the date of change and expiration period had been reduced
from 10 years to 5 years. These two changes ended-up with no additional costs to the
Company as calculated per SFAS 123(R).
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | During
2007 the Company granted 517,000 options under this plan at an exercise price equal to
share market price on grant date. All these options expire in 5 years.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | As
of December 31, 2007, 763,195 options were exercised into ordinary shares and 3,255,334
options are outstanding.
| | -------------------------------------------------------------------------------------------------------------------

| | (4) | Plan
for two executives
| | --- | -----------------------

| | During
2001, the Companys Board of Directors approved share option plans for two
executives. Under this plans a total of 229,147 and 183,941 options, respectively, were
granted to these executives. The options are exercisable into ordinary shares in
consideration for an exercise price of $2.8 per share. The options are exercisable over a
period of 6 years. In December 2004, the Companys Board of Directors approved an
extension of the exercise period from six years to ten years from the date of grant. As
of the December 31, 2007, the number of options outstanding and exercisable under this
plan was 413,088.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | (5) | A
summary of the information with respect to the Companys share option
          plans is as follows:
| | --- | ------------------------------------------------------------------------------------------------------

| |                             | Options outstanding | Weighted average
exercise price
| | --------------------------- | ------------------- | -------------------------------
|
|
|
|
| | Balances, January 1, 2005   |                     |                                
| | Granted                     |                     |                                
| | Exercised                   |                     |                                
| | Forfeited                   |                     |                                
| |                             |                     |                                
| | Balances, December 31, 2005 |                     |                                
| | Granted                     |                     |                                
| | Exercised                   |                     |                                
| | Forfeited                   |                     |                                
| |                             |                     |                                
| | Balances, December 31, 2006 |                     |                                
| | Granted                     |                     |                                
| | Exercised                   |                     |                                
| | Forfeited                   |                     |                                
| |                             |                     |                                
| | Balances, December 31, 2007 |                     |                                
| |                             |                     |                                

F - 20

---

---

SCOPUS VIDEO NETWORKS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except share and per share data)

# NOTE 11  SHARE CAPITAL
(cont.)

| | B. | Share
option plans (cont.)
| | -- | --------------------------

| | (6) | The
following table summarizes information about share options outstanding as of
          December 31, 2007:
| | --- | -------------------------------------------------------------------------------------------------------------

| | Options Outstanding | Options Exercisable
| | ------------------- | -------------------
|
|
|
|
| | $2.80 - $3.75       |                    
| | $4.31 - $5.60       |                    
| | $7.00 - $7.84       |                    
| | $8.34 - $8.40       |                    
| |                     |                    
| | Total               |                    
| |                     |                    

# NOTE 12 
GEOGRAPHIC AREAS AND MAJOR CUSTOMERS

| | The
Company adopted SFAS 131 Disclosure about Segments on an Enterprise and Related
Information. The Company operates in one operating and reporting segment.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------

| | A. | Geographic
information
| | -- | ----------------------

| |                                          | Year ended December 31,
| | ---------------------------------------- | -----------------------
|
|
|
|
| | Revenues:                                |                        
| | USA                                      |                        
| | Other                                    |                        
| |                                          |                        
| | Total North and South America            |                        
| |                                          |                        
| |                                          |                        
| | China                                    |                        
| | India                                    |                        
| | Other                                    |                        
| |                                          |                        
| | Total Asia and the Pacific Rim           |                        
| |                                          |                        
| |                                          |                        
| | Russia                                   |                        
| | Other                                    |                        
| |                                          |                        
| | Total Europe, the Middle East and Africa |                        
| |                                          |                        
| |                                          |                        
| | Total revenues                           |                        
| |                                          |                        

| |                    | December 31,
| | ------------------ | ------------
|
|
|
|
| | Fixed assets, net: |             
| | Israel             |             
| | USA                |             
| |                    |             
| | Total              |             
| |                    |             

F - 21

---

---

SCOPUS VIDEO NETWORKS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except share and per share data)

# NOTE 12 
GEOGRAPHIC AREAS AND MAJOR CUSTOMERS (cont.)

| | B. | Revenues
by major customers
| | -- | ---------------------------

| | In
the years 2007, 2006 and 2005 the Company did not sell to any of its customers more than
10% of its annual revenues.
| | -----------------------------------------------------------------------------------------------------------------------

# NOTE 13  INCOME
TAXES

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

| | In
1996 the Company received from the Investment Center of the Ministry of Industry and
Trade of the State of Israel an approval certificate for an investment program for the
production of digital-video compression and distribution systems. In July 2001, the
Company received from the Investment Center the final approval for this program.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | In
2000, following the completion of the first investment program, the Company received from
the Investment Center an approval certificate for an expansion program. The expansion
programs investments were concluded in December 2003 and in September 2005, the
Company received from the Investment Center the final approval for this expansion program.
| | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | In
2004 the Company received an approval certificate for additional expansion program. The
programs investments were concluded in September 2005.
| | --------------------------------------------------------------------------------------------------------------------------------------------------

| | The
tax-exempt benefit track provides for a tax exemption on undistributed earnings derived
from assets included in the Approved Enterprise investment program for the
first two years (except for the first program which provides an exemption for the first
four years) of a seven to ten year benefit period and tax rates between 10% and 25% for
the remaining five to eight years (except for the first program which provides a
remaining period of three to six years) of the benefit period depending on the holdings
of the non-Israeli shareholders in the Companys shares. These benefits are granted
to income generated from the assets included within the framework of the approval
certificates, subject to the fulfillment of the conditions stipulated in the approval
certificates.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
period for utilizing the tax benefits commences with the year in which the Company first
reports taxable income from the relevant assets (provided that 12 years have not yet
elapsed from the first year defined as the operational year pursuant to the
Law or, 14 years from the receipt of each of the approval certificates, the earlier of
the two).
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | In
addition, the Law provides accelerated depreciation rates for tax purposes. Due to losses
for tax purposes, the Company has not utilized the benefits in the framework of these
approvals.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | The
Companys income not stemming from the assets acquired within this framework are
subject to ordinary corporate tax rates in Israel (see F).
| | -----------------------------------------------------------------------------------------------------------------------------------------------

| | Should
the Company distribute cash dividends to its shareholders out of the profits stemming
from the assets entitled to a tax exemption, the Company would be subject to a 25% tax on
such distributions.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | B. | Taxation
under inflationary conditions
| | -- | --------------------------------------

| | The
Company reports its income for tax purposes in accordance with the Income Tax Law
(Inflationary Adjustments), 1985, which serves as the basis for measuring the taxable
income in New Israeli Shekels adjusted to the changes in the Israeli Consumer Price Index.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | On
February 26, 2008 the Income Tax (Inflationary Adjustments) Law (Amendment no. 20)
(Limitation for Period of Application), 2008 (the Amendment) passed in
a third calling in the Knesset. According to the Amendment, the application of the
Inflationary Law will cease in the tax year of 2007, and beginning in 2008 the provisions
of the law will no longer apply, except for transaction period provisions, which have the
purpose of preventing distortions in the calculations of taxes.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | In
accordance with the Amendment, beginning in the year 2008, no calculations for inflationary adjustments
of revenues for tax purposes will be made. In addition, there will be no adjustments
to the Israeli CPI for fixed assetsdepreciations and carry-forward tax
losses for the period beginning January 1, 2008.
| | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | C. | Income
taxes expenses for all years presented, relate to SVNI.
| | -- | --------------------------------------------------------------

F - 22

---

---

# SCOPUS VIDEO NETWORKS
LTD.NOTES TO THE
CONSOLIDATED FINANCIAL STATEMENTS(Dollars in thousands,
except share and per share data)

# NOTE 13  INCOME
TAXES (cont.)

| | D. | As
of December 31, 2007 the Company has recorded a valuation allowance for the
               entire amount of deferred tax assets arising from tax loss carry forwards
in the                amount of $35.1 million, due to management estimation that the
realization of                such amounts is not considered to be more-likely-than-not.
| | -- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

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

| | F. | Israeli
tax reform
| | -- | ------------------

| | On
July 25, 2005, an amendment to the Israeli tax law was approved by the Israeli
Parliament, which reduces the tax rates imposed on Israeli companies to 31% for 2006. The
amendment states that the corporate tax rate will be further reduced in subsequent tax
years as follows: in 2007  29%, in 2008  27%, in 2009  26% and 25%
thereafter.
| | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | G. | Adoption
of new accounting standard FIN 48
| | -- | ------------------------------------------

| | In
adopting FIN 48, the Company identified a number of tax positions. Following the
assessment of these tax positions, the Company believes that they meet the more
than likely recognition threshold as outlined in this guidance and therefore the
Company is not subject to any unrecognized tax benefits.
| | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 23

---

---

SCOPUS VIDEO NETWORKS LTD.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except share and per share data)

# NOTE 14  NET LOSS
PER ORDINARY SHARE

| |                                                        | Year ended December 31,
| | ------------------------------------------------------ | -----------------------
|
|
|
|
| | Net loss                                               |                        
| | Dividend on preferred shares                           |                        
| |                                                        |                        
| | Net loss attributable to ordinary shares               |                        
| |                                                        |                        
| |                                                        |                        
| | Weighted average number of ordinary shares outstanding |                        
| | used in basic and diluted loss per ordinary share      |                        
| | calculation                                            |                        
| |                                                        |                        
| |                                                        |                        
| | Basic and diluted net loss per ordinary share          |                        
| |                                                        |                        

# NOTE 15  BALANCES
AND TRANSACTIONS WITH RELATED PARTIES

| | During
2005 the Company provided research and development services to a related party, which was
a subsidiary of Koor, parent of the Company up to 2005. In January 2007, Optibase Ltd.
became a related company to the Company through acquisition of Koors shares. The
Company sold its products to Optibase Ltd. on a regular course of business.
| | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |                                  | Year ended December 31,
| | -------------------------------- | -----------------------
|
|
|
|
| | Statement of operations data:    |                        
| | Revenue - formerly related party |                        
| |                                  |                        
| |                                  |                        
| | Revenue                          |                        
| |                                  |                        
| |                                  |                        
| | Balance sheet data:              |                        
| | Trade accounts receivable        |                        
| |                                  |                        

F - 24

---

---

Item 19. Exhibits

See
Exhibit Index.

SIGNATURES

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

|                      |                 |                                                                                               
|--------------------- | --------------- | ----------------------------------------------------------------------------------------------
|Date: June
  27, 2008 | OPTIBASE
  LTD.
|                      |                 |                                                                                               
|                      | By:             | /s/ Shlomo
(Tom) Wyler                                                                        
|                      |                 |                                                                                               
|                      |                 | Name: Shlomo
  (Tom) Wyler                                                                    
|                      |                 | Title:
  President, Chief Executive Officer and Executive Chairman of the Board of
  Directors

-78-

---

---

Exhibit Index

|              |                                                                                                                                                                                                                                                                                                                                                                                                  
|------------- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|ExhibitNumber | Description of Document                                                                                                                                                                                                                                                                                                                                                                          
|              |                                                                                                                                                                                                                                                                                                                                                                                                  
|1.1           | Amended and
  Restated Memorandum of Association of the Company (incorporated by reference
  to Exhibit 3.1 to the Registrants Report on Form 6-K dated February 15,
  2002).                                                                                                                                                                                                                   
|              |                                                                                                                                                                                                                                                                                                                                                                                                  
|1.2           | Amended
  Articles of Association of the Company (incorporated by reference to
  Exhibit 3.2 to the Registrants
  Registration Statement on Form S-8 (File no. 333-137644), filed with the
  Commission on September 28, 2006).                                                                                                                                                                 
|              |                                                                                                                                                                                                                                                                                                                                                                                                  
|4.1           | Agreement
  between Optibase, Inc. and Artel Software Corp. dated September 28, 2005
  (incorporated by reference to Exhibit 4.(a)(2) to the Registrants Annual
  Report on Form 20-F for the fiscal year ended December 31, 2005, filed with
  the Commission on April 12, 2006).                                                                                                              
|              |                                                                                                                                                                                                                                                                                                                                                                                                  
|4.2           | Agreement,
  dated as of January 9, 2007, between the Company and Koor Corporate Venture
  Capital and Koor Industries Ltd. (incorporated by reference to Exhibit 4.3 to
  the Registrants Annual Report on Form 20-F for the fiscal year ended
  December 31, 2006, filed with the Commission on May 14, 2007).                                                                                
|              |                                                                                                                                                                                                                                                                                                                                                                                                  
|4.3           | Agreement,
  dated as of December 31, 2007, between Optibase Ltd. and Pitango Venture
  Capital Fund III (Israeli Investors) LP, Pitango Venture Capital Fund III
  (Israeli Sub) LP, Pitango Venture Capital Fund III (Israeli Sub) Non-Q LP,
  Pitango Parallel Investor Fund III (Israel) LP, Pitango Principals Fund III
  (Israel) LP and Pitango Venture Capital Fund III Trusts 2000 Ltd..
|              |                                                                                                                                                                                                                                                                                                                                                                                                  
|4.4           | Agreement,
  dated as of December 31, 2007, between Optibase Ltd. and Genesis Partners II
  LDC and Genesis Partners II (Israel) LP.                                                                                                                                                                                                                                                             
|              |                                                                                                                                                                                                                                                                                                                                                                                                  
|4.5           | Agreement,
  dated as of December 31, 2007, between Optibase Ltd. and Vertex Israel II
  (C.I.) Fund, L.P, Vertex Israel II (A) Fund, L.P, Vertex Israel II (B) Fund,
  L.P, Vertex Israel II Discount Fund, L.P, Vertex Israel II (C.I.) Executive
  Fund, L.P.                                                                                                                                 
|              |                                                                                                                                                                                                                                                                                                                                                                                                  
|4.6           | Agreement,
  dated May 6, 2008, between Optibase Ltd. and Mr. Shlomo (Tom) Wyler
  (incorporated by reference to Exhibit 99.4 to the Schedule 13D/A, filed with
  the Commission on June 25, 2008).                                                                                                                                                                                              
|              |                                                                                                                                                                                                                                                                                                                                                                                                  
|4.7           | Form of
  Letter of Indemnity between Optibase Ltd. and its directors and officers
  (incorporated by reference to Exhibit 99.3 to Registrants Report on Form
  6-K, filed with the Commission on October 5, 2005).                                                                                                                                                                             
|              |                                                                                                                                                                                                                                                                                                                                                                                                  
|4.8           | Form of
  Letter of Indemnity between Optibase, Inc. and its directors and officers
  (incorporated by reference to Exhibit 4.9 to the Registrants Annual Report
  on Form 20-F for the fiscal year ended December 31, 2002, filed with the
  Commission on June 30, 2006).                                                                                                                     
|              |                                                                                                                                                                                                                                                                                                                                                                                                  
|4.9           | 1999 Israel
  Share Option Plan, as amended (incorporated by reference to exhibits filed
  with the Registrants Annual Report on Form 20-F for the fiscal year ended
  December 31, 1999).                                                                                                                                                                                                      
|              |                                                                                                                                                                                                                                                                                                                                                                                                  
|4.10          | 1999 U.S.
  Share Option Plan, as amended (incorporated by reference to exhibits filed
  with the Registrants Annual Report on Form 20-F for the fiscal year ended
  December 31, 1999).                                                                                                                                                                                                        
|              |                                                                                                                                                                                                                                                                                                                                                                                                  
|4.11          | 102 Plan
  (incorporated by reference to exhibits filed with the Registrants Annual
  Report on Form 20-F for the fiscal year ended December 31, 1999).                                                                                                                                                                                                                                         
|              |                                                                                                                                                                                                                                                                                                                                                                                                  
|4.12          | Employee
  Stock Purchase Plan (incorporated by reference to exhibits filed with the
  Registrants Annual Report on Form 20-F for the fiscal year ended December
  31, 1999).                                                                                                                                                                                                                   
|              |                                                                                                                                                                                                                                                                                                                                                                                                  
|4.13          | 2001
  Non-statutory Share Option Plan as amended and Form Option Agreement
  (incorporated by reference to Exhibit 10.5 to the Registrants Annual Report
  on Form 20-F for the fiscal year ended December 31, 2000, and with respect to
  an amendment, by reference to Exhibit 99.7 to the Registrants Report on Form
  6-K, filed with the Commission on February 15, 2002).               
|              |                                                                                                                                                                                                                                                                                                                                                                                                  
|4.14          | 2003
  Amendment to the 1999 Israel Share Option Plan (incorporated by reference to
  Exhibit 4.(c). 9 to the Registrants Annual Report on Form 20-F for the
  fiscal year ended December 31, 2003, filed with the Commission on May 17,
  2004).                                                                                                                                               
|              |                                                                                                                                                                                                                                                                                                                                                                                                  
|4.15          | 2006 Israeli
  Incentive Compensation Plan (incorporated
  by reference to Exhibit 4.1 to the Registrants Registration Statement on
  From S-8 (File no. 333-137644), filed with the Commission on September 28,
  2006).                                                                                                                                                                       
|              |                                                                                                                                                                                                                                                                                                                                                                                                  
|8.1           | List of the
  subsidiaries of the Company (incorporated by reference to Exhibit 8.1 to the
  Registrants Annual Report on Form 20-F for the fiscal year ended December
  31, 2003, filed with the Commission on May 17, 2004).                                                                                                                                                                  

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|              |                                                                                                                                                                                                                           
|------------- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|ExhibitNumber | Description of Document                                                                                                                                                                                                   
|              |                                                                                                                                                                                                                           
|11.1          | Code of
  Business Conduct and Ethics (incorporated by reference to Exhibit 11 to the
  Registrants Annual Report on Form 20-F for the fiscal year ended December
  31, 2003, filed with the Commission on May 17, 2004).
|              |                                                                                                                                                                                                                           
|12.1          | Certification
  by Chief Executive Officer pursuant to Rule 13a-14(a) or Rule 15d-14(a) of
  the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of
  the Sarbanes-Oxley Act of 2002.                 
|              |                                                                                                                                                                                                                           
|12.2          | Certification
  by Chief Financial Officer pursuant to Rule 13a-14(a) or Rule 15d-14(a) of
  the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of
  the Sarbanes-Oxley Act of 2002.                 
|              |                                                                                                                                                                                                                           
|13.1          | Certification
  by Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act
  of 2002.                                                                                                                   
|              |                                                                                                                                                                                                                           
|13.2          | Certification
  by Principal Financial Officer pursuant to Section 906 of the Sarbanes-Oxley
  Act of 2002.                                                                                                               
|              |                                                                                                                                                                                                                           
|15.1          | Consent of
  Kost, Forer Gabbay & Kasierer, a member of Ernst & Young Global.                                                                                                                                             
|              |                                                                                                                                                                                                                           
|15.2          | Consent of Brightman Almagor Zohar
 & Co., Certified Public Accountants, a member Firm of Deloitte
Touche Tohmatsu.                                                                                                       
|              |                                                                                                                                                                                                                           
|15.3          | Consent of Brightman Almagor & Co., Certified Public Accountants, a member Firm of Deloitte
Touche Tohmatsu.                                                                                                              

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