---

---

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

# FORM 20-F

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

OR

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

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

OR

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

For the transition period from ____ to _____

Commission File No. 0001291364

SYNERON MEDICAL LTD. (Exact Name of
Registrant as specified in its charter)

N/A 
(Translation of
Registrants name into English)

ISRAEL 
(Jurisdiction of
incorporation or organization)

Industrial Zone, Yokneam
Illit, 20692, P.O.B. 550, Israel 
(Address of principal
executive offices)

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

|                    |                                          
|------------------- | -----------------------------------------
|
|
|
|
|Title of Each Class | Name of Each Exchange
on which Registered
|None                | None                                     

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

Ordinary shares, par
value NIS 0.01 per share 
(Title of Class)

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

None 
(Title of Class)

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

As
of December 31, 2004, the Registrant had outstanding 23,288,820 ordinary shares.

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

Yes x No o

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

Item 17  o    Item 18 x



---

---

As
used herein, and unless the context suggest otherwise, the terms we,
us or ours refer to Syneron Medical Ltd. and its consolidated
subsidiaries.

This
annual report on Form 20-F contains forward-looking statements within the meaning of
Section 21E of the Securities Exchange Act of 1934, as amended. The use of the words
projects, may, plans or intends, or words of
similar import, identifies a statement as forward looking. The forward-looking
statements included herein are based on current expectations that involve a number of
risks and uncertainties. These forward-looking statements are based on the assumption that
we will not lose a significant customer or customers or experience increased fluctuations
of demand or rescheduling of purchase orders, that our products will be approved by
appropriate regulatory authorities, that our markets will continue to grow, that our
products will remain accepted within their respective markets and will not be replaced by
new technologies, that competitive conditions within our markets will not change
materially or adversely, that we will retain key technical and management personnel, that
our forecasts will accurately anticipate market demand and that there will be no material
adverse change in our operations or business. Assumptions relating to the foregoing
involve judgment with respect to, among other things, future economic, competitive and
market conditions, and future business decisions, all of which are difficult or impossible
to predict accurately and many of which are beyond our control. In light of the
significant uncertainties inherent in the forward-looking information included herein, the
inclusion of such information should not be regarded as a representation by us or any
other person that our objectives or plans will be achieved. Factors that could cause
actual results to differ from our expectations or projections include the risks and
uncertainties relating to our business described in this annual report at Item 3.D
Risk Factors.



---

---

# Table of Contents

|          |                                                                              |   
|--------- | ---------------------------------------------------------------------------- | --
|
|
|
|
|PART I    |                                                                              |   
|         
|Item 1.   | Identity of Directors, Senior Management and Advisers                        | 1 
|Item 2.   | Offer Statistics and Expected Timetable                                      | 1 
|Item 3.   | Key Information                                                              | 1 
|Item 4.   | Information on the Company                                                   | 16
|Item 5.   | Operating and Financial Review and Prospects                                 | 34
|Item 6.   | Directors, Senior Management and Employees                                   | 45
|Item 7.   | Major Shareholders and Related Party Transactions                            | 52
|Item 8.   | Financial Information                                                        | 54
|Item 9.   | The Offer and Listing                                                        | 55
|Item 10.  | Additional Information                                                       | 56
|Item 11.  | Quantitative and Qualitative Disclosures about Market Risk                   | 70
|Item 12.  | Description of Securities Other than Equity Securities                       | 71
|         
|PART II  
|         
|Item 13.  | Defaults, Dividend Arrearages and Delinquencies                              | 71
|Item 14.  | Material Modifications to the Rights of Security Holders and Use of Proceeds | 71
|Item 15.  | Controls and Procedures                                                      | 72
|Item 16A. | Audit Committee Financial Expert                                             | 72
|Item 16B. | Code of Ethics                                                               | 72
|Item 16C. | Principal Accountant Fees and Services                                       | 72
|Item 16D. | Exemptions from the Listing Standards for Audit Committees                   | 72
|Item 16E. | Purchases of Equity Securities by the Issuer and Affiliated Purchasers       | 73
|         
|PART III 
|         
|Item 17.  | Financial Statements                                                         | 73
|Item 18.  | Financial Statements                                                         | 73
|Item 19.  | Exhibits                                                                     | 74



---

---



# PART I

|ITEM 1. |  | IDENTITY
OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS
|------- |  | -----------------------------------------------------

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

|ITEM 2. |  | OFFER
STATISTICS AND EXPECTED TIMETABLE
|------- |  | ---------------------------------------

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

|ITEM 3. |  | KEY
INFORMATION
|------- |  | ---------------

|A. | SELECTED
FINANCIAL DATA
|-- | -----------------------

The
following selected consolidated financial data is qualified by reference to and should be
read in conjunction with our consolidated financial statements and notes thereto included
elsewhere in this annual report on Form 20-F.

The
selected consolidated balance sheet data as of December 31, 2000, 2001 and 2002 and the
selected consolidated statement of operations data for the partial year ended December 31,
2000 and the full year ended December 31, 2001 have been derived from our audited
financial statements not included in this annual report. The selected consolidated balance
sheet data as of December 31, 2003 and 2004 and the selected consolidated statements of
operations data for each of the years ended December 2002, 2003, and 2004 have been
derived from our audited consolidated financial statements, included elsewhere in this
annual report, which have been prepared in accordance with accounting principles generally
accepted in the United States and audited by Kost, Forer, Gabay & Kasierer, an
independent registered public accounting firm, and a member firm of Ernst & Young
Global.

1

---

---

|                                           | Period from
July 25, 2000
To December 31
2000 | Year ended December 31,
|------------------------------------------ | --------------------------------------------- | -----------------------
|
|
|
|
|Consolidated Statement of Operations Data: |                                               |                        
|Revenues                                   |                                               |                        
|Cost of revenues(1)                        |                                               |                        
|                                           |                                               |                        
|Gross profit                               |                                               |                        
|Operating expenses:                        |                                               |                        
|Research and development, net(1)           |                                               |                        
|Selling and marketing, net(1)              |                                               |                        
|General and administrative(1)              |                                               |                        
|Settlement and legal costs(2)              |                                               |                        
|                                           |                                               |                        
|Total operating expenses(1)(2)             |                                               |                        
|                                           |                                               |                        
|Operating income (loss)(1)(2)              |                                               |                        
|Financial income (expense), net            |                                               |                        
|                                           |                                               |                        
|Income (loss) before taxes on income       |                                               |                        
|Taxes on income                            |                                               |                        
|                                           |                                               |                        
|Net income (loss)                          |                                               |                        
|                                           |                                               |                        
|Net earnings (loss) per share:             |                                               |                        
|Basic                                      |                                               |                        
|                                           |                                               |                        
|Diluted                                    |                                               |                        
|                                           |                                               |                        
|Weighted-average number of shares used     |                                               |                        
|in actual per share calculations:          |                                               |                        
|Basic                                      |                                               |                        
|                                           |                                               |                        
|Diluted                                    |                                               |                        
|                                           |                                               |                        

|                                                             |  |  |   |    
|------------------------------------------------------------ |  |  | - | ---
|
|
|
|
|(1) Includes the following stock-based compensation charges: |  |  |   |    
|Cost of revenues                                             |  |  | $ |   
|Research and development                                     |  |  |   |   
|Selling and marketing                                        |  |  |   | 43 
|General and administrative                                   |  |  |   | 478
|                                                             |  |  |   |    
|Total stock-based compensation charge                        |  |  | $ | 521
|                                                             |  |  |   |    

(2)  Consists of settlement
and litigation costs in 2002 and 2003 associated with litigation with a competitor as set
forth in Note 11(c) of the Notes to our Consolidated Financial Statements.

|                                    | As of December 31,
|----------------------------------- | ------------------
|
|
|
|
|Consolidated Balance Sheet Data:    |                   
|Cash and cash equivalents, deposits |                   
|and securities                      |                   
|Working capital                     |                   
|Total assets                        |                   
|Total liabilities                   |                   
|Retained earnings (deficit)         |                   
|Shareholders' equity (deficiency)   |                   

2

---

---

|B. | CAPITALIZATION
AND INDEBTEDNESS
|-- | -------------------------------

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

|C. | REASONS
FOR OFFER AND USE OF PROCEEDS
|-- | -------------------------------------

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

|D. | RISK
FACTORS
|-- | ------------

Investing
in our ordinary shares involves a high degree of risk. You should consider carefully the
following risk factors, as well as the other information in this annual report, before
deciding to invest in our ordinary shares. If any of the following risks actually occurs,
our business, financial condition and results of operations would suffer. If this happens,
the trading price of our ordinary shares would likely decline and you might lose all or
part of your investment in our ordinary shares.

# Risks Related to Our
Business and Industry

Our success depends upon market
acceptance of our products, our ability to develop and commercialize new products and our
ability to identify new markets for our technology.

We
have created products that apply our technology to rejuvenate the skins appearance
through the treatment of superficial benign vascular and pigmented lesions, hair removal,
wrinkle reduction, the treatment of acne and leg veins and the treatment for the temporary
reduction in the appearance of cellulite. We introduced our first product in December
2001, the Aurora, and have expanded our product offerings to include five additional
product platforms, the Pitanga, Polaris, Galaxy, Comet and Vela. It is difficult for us to
predict the success of our recently introduced products over the long term. We have not
demonstrated an ability to market and sell multiple products. Our failure to significantly
penetrate current or new markets with our products and manage the manufacturing and
distribution of multiple products could negatively impact our business, financial
condition and results of operations. The success of our products depends on adoption and
acceptance of our ELOS technology. The rate of adoption and acceptance may be affected
adversely by perceived issues relating to quality and safety, customers reluctance
to invest in new technologies, and widespread acceptance of other technologies. Our
business strategy is based, in part, on our expectation that we will continue to make
novel product introductions and upgrades that we can sell to new and existing users of our
products and that we will be able to identify new markets for our existing ELOS
technology.

To
successfully increase our revenues, we must:

| |  | convince
our target customers that our products or product upgrades would be an attractive
revenue-generating addition to their practices;
| | - | ------------------------------------------------------------------------------------------------------------------------------------------

| |  | sell
our products to non-traditional customers, including primary care physicians,
obstetricians/gynecologists, ear, nose and throat specialists, other specialists and
non-medical professionals;
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | develop
or acquire new products that either add to or significantly improve our current products;
| | - | -------------------------------------------------------------------------------------------------

| |  | identify
new markets and emerging technological trends in our target markets and react effectively
to technological          changes; and
| | - | -----------------------------------------------------------------------------------------------------------------------------------------

| |  | maintain
effective sales and marketing strategies.
| | - | --------------------------------------------------

3

---

---

We
may be unable, however, to continue to develop new upgrades, products and technologies at
the rate we expect, or at all, which could affect adversely our expected growth rate. In
addition, the market for aesthetic devices is highly competitive and dynamic, and marked
by rapid and substantial technological development and product innovations. Demand for our
products could be diminished by equivalent or superior products and technologies offered
by competitors.

Due to our limited history of
operations, we may not be able to predict our future performance or continue our revenue
growth and profitability.

We
were incorporated in July 2000 and commercially launched our first product in the fourth
quarter of 2001. Consequently, we have a limited history of operations. The future success
of our business will depend on our ability to increase product sales, successfully
introduce new products, expand our sales force and distribution network, and control
costs, which we may be unable to do. As a result, we may not be able to continue our
revenue growth and profitability.

We may have difficulty managing
our growth which could limit our ability to increase sales and cash flow.

We
have been experiencing significant growth in the scope of our operations and the number of
our employees. This growth has placed significant demands on our management, as well as
our financial and operational resources. In order to achieve our business objectives, we
anticipate that we will need to continue to grow. Continued growth would increase the
challenges involved in:

| |  | implementing
appropriate operational and financial systems;
| | - | -----------------------------------------------------------

| |  | expanding
manufacturing capacity and scaling up production;
| | - | -----------------------------------------------------------

| |  | expanding
our sales and marketing infrastructure and capabilities;
| | - | ------------------------------------------------------------------

| |  | providing
adequate training and supervision to maintain high quality standards; and
| | - | -----------------------------------------------------------------------------------

| |  | preserving
our culture and values.
| | - | ----------------------------------

If
this growth occurs, it will continue to place additional significant demands on our
management and our financial and operational resources, and will require that we continue
to develop and improve our operational, financial and other internal controls. If we
cannot scale and manage our business appropriately, we will not experience our projected
growth and our financial results will suffer.

# Our financial results
may fluctuate from quarter to quarter.

Demand
for our products varies from quarter to quarter and these variations may cause revenue to
fluctuate significantly from quarter to quarter. As a result, it is difficult for us to
predict sales for subsequent periods accurately. In addition, we base our production,
inventory and operating expenditure levels on anticipated orders. If orders are not
received when expected in any given quarter, expenditure levels could be
disproportionately high in relation to revenue for that quarter. A number of additional
factors, over which we have limited control, may contribute to fluctuations in our
financial results, including:

| |  | the
willingness of individuals to pay directly for aesthetic medical procedures, in light of
the lack of reimbursement by third-party payers;
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------

| |  | continued
availability of attractive equipment leasing terms for our customers, which may be
negatively influenced by interest rate increases;
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------

| |  | changes
in our ability to obtain and maintain regulatory approvals;
| | - | -------------------------------------------------------------------

| |  | increases
in the length of our sales cycle;
| | - | -------------------------------------------

4

---

---

| |  | performance
of our independent distributors; and
| | - | ------------------------------------------------

| |  | delays
in, or failure of, product and component deliveries by our subcontractors and suppliers.
| | - | -----------------------------------------------------------------------------------------------

If we are unable to protect our
intellectual property rights, our competitive position could be harmed.

Our
success and ability to compete depends in large part upon our ability to protect our
proprietary technology. As of March 31, 2005, our patent portfolio consisted of four
issued patents, one of which we purchased in December 2004, and 13 patent applications
pending in the United States relating to our technology and products. Our pending and
future patent applications may not issue as patents or, if issued, may not issue in a form
that will be advantageous to us. Any issued patents may be challenged, invalidated or
legally circumvented by third parties. We cannot be certain that our patents will be
upheld as valid and enforceable or prevent the development of competitive products.
Consequently, competitors could develop, manufacture and sell products that directly
compete with our products, which could decrease our sales and diminish our ability to
compete. In addition, competitors could purchase one of our products and attempt to
replicate some or all of the competitive advantages we derive from our development
efforts, design around our protected technology, or develop their own competitive
technologies that fall outside of our intellectual property rights. If our intellectual
property does not adequately protect us from our competitors products and methods,
our competitive position could be adversely affected, as could our business.

We
rely on a combination of patent and other intellectual property laws and confidentiality,
non-disclosure and assignment of inventions agreements, as appropriate, with our
employees, consultants and customers, to protect and otherwise seek to control access to,
and distribution of, our proprietary information. These measures may not be adequate to
protect our technology from unauthorized disclosure, third-party infringement or
misappropriation. We also rely on trade secret protection for our technology, in part
through confidentiality agreements with our employees, consultants and third parties.
However, these parties may breach these agreements, and we may not have adequate remedies
for any breach. Also, others may learn of our trade secrets through a variety of methods.
In addition, the laws of certain countries in which we develop, manufacture or sell our
products may not protect our intellectual property rights to the same extent as the laws
of the United States or Israel.

Existing and future third-party
claims of infringement or other claims against us could require us to redesign our
products, seek licenses, or engage in future costly intellectual property litigation,
which could impact our future business and financial performance.

New
patent applications may be pending or may be filed in the future by third parties covering
technology that we currently use or may ultimately use. Third parties may from time to
time claim that our current or future products infringe their patent or other intellectual
property rights, and seek to prevent, limit or interfere with our ability to make, use,
sell or import our products. For example, one of our competitors, Lumenis Ltd., sued us
for unfair competition, misappropriation of trade secrets and alleged infringement in
2002. In March 2004, without admitting liability, we entered a settlement to resolve this
litigation and entered a license agreement for certain Lumenis patents, under which
license fees were caped at $4.2 million, of which $3.24 million had been paid by March 31,
2005. Another competitor, Thermage, Inc. sued us for patent infringement in 2004. We filed
a counterclaim, also alleging patent infringement, and this litigation was settled with
the parties entering into a cross-licensing agreement in June 2005. Legal fees and our
settlement costs in connection with our settlement with Thermage amounted to $2.2 million.

On
July 29, 2004, Shladot Metal Works, a privately owned Israeli company, sued us and Dr.
Eckhouse in a Haifa, Israel court, claiming that in 1999 Dr. Eckhouse had access to
confidential material regarding an Israeli patent, which he allegedly used in violation of
a confidentiality agreement in connection with forming Syneron. The complaint alleges that
our products infringe Shladots Israeli patent and seeks damages in the amount of NIS
10 million (approximately US $2.3 million), an injunction and an order that Dr. Eckhouse
transfer his Syneron ordinary shares to Shladot. On October 10, 2004, we filed a
counterclaim for damages against Shladot, its chairman Mr. Arye Fridenson, and Dr. Rachel
Lubart. Dr. Eckhouse and we believe that we both have meritorious defenses to the Shladot
suit and intend to defend it vigorously. We also believe we have a meritorious
counterclaim against Shladot, its chairman Mr. Arye Fridenson and Dr. Rachel Lubart. If
Shladot were to obtain an injunction, it could prevent us from manufacturing, marketing
and selling some or all of our products in Israel which could have a material adverse
effect on our business.

5

---

---

If
it appears necessary or desirable, we may try to obtain licenses for those patents or
intellectual property rights that we are allegedly infringing, may infringe, or desire to
use. Although holders of these types of intellectual property rights commonly offer these
licenses, we cannot assure you that licenses will be offered or that the terms of any
offered licenses will be acceptable to us. Our failure to obtain a license for key
intellectual property rights from a third-party for technology used by us could cause us
to incur substantial liabilities and to suspend the manufacturing and selling of products
utilizing the technology. Alternatively, we could be required to expend significant
resources to develop non-infringing technology. We cannot assure you that we would be
successful in developing non-infringing technology.

We
also may become involved in intellectual property litigation in the future. Although we
may try to resolve any potential future claims or actions as we did with the competitor
described above, we may not be able to do so on reasonable terms, if at all. Following a
successful third-party action for infringement, we may be required to pay substantial
damages and if we cannot obtain a license or redesign our products, we may have to stop
manufacturing, selling and marketing our products, and our business could suffer as a
result. Infringement and other intellectual property claims, with or without merit, can be
expensive and time-consuming to litigate, and could divert managements attention
from our core business. We do not know whether necessary licenses would be available to us
on satisfactory terms, or whether we could redesign our products or processes to avoid
infringement. If we lose this kind of litigation, a court could require us to pay
substantial damages, and prohibit us from using technologies essential to our products,
any of which would have a material adverse effect on our business, results of operations
and financial condition.

We
may become involved in litigation to protect the trademark rights associated with our
company name or the names of our products. We do not know whether others will assert that
our company name infringes their trademark rights. In addition, names we choose for our
products may be claimed to infringe names held by others. If we have to change the name of
our company or products, we may experience a loss in goodwill associated with our brand
name, customer confusion and a loss of sales.

We
may become involved in litigation not only as a result of alleged infringement of a
third-partys intellectual property rights, but also to protect our own intellectual
property rights.

We compete against companies that
have longer operating histories, more established products and greater resources, which
may prevent us from achieving significant market penetration or maintaining or improving
operating results.

Our
products compete against products offered by public companies, including Candela
Corporation, Laserscope, Lumenis Ltd., Cutera, Inc. and Palomar Medical Technologies,
Inc., as well as by private companies such as Cynosure, Inc., Sciton, Inc., Radiancy Inc.,
Thermage, Inc. and several other smaller specialized companies. Competition with these
companies could result in reduced prices and profit margins and loss of market share, any
of which could harm our business, financial condition and results of operations. We also
face competition from medical products, including Botox and collagen injections, and
aesthetic procedures, such as sclerotherapy, electrolysis, liposuction and chemical peels,
that are unrelated to radio frequency and light or laser-based technologies. We also may
face competition from manufacturers of pharmaceutical and other products that have not yet
been developed. Our ability to compete effectively depends upon our ability to distinguish
our company and our products from our competitors and their products, and includes the
following factors:

| |  | product
performance;
| | - | --------------------

6

---

---

| |  | product
pricing;
| | - | ----------------

| |  | intellectual
property protection;
| | - | ---------------------------------

| |  | quality
of customer support;
| | - | ----------------------------

| |  | success
and timing of new product development and introductions; and
| | - | --------------------------------------------------------------------

| |  | development
of successful distribution channels.
| | - | ------------------------------------------------

Some
of our competitors have more established products and customer relationships than we do,
which could inhibit our market penetration efforts. Potential customers also may need to
recoup the cost of expensive products that they already have purchased from our
competitors and may decide not to purchase our products, or to delay such purchases. If we
are unable to achieve continued market penetration, we will be unable to compete
effectively and our business will be harmed.

In
addition, some of our current and potential competitors have significantly greater
financial, research and development, manufacturing, and sales and marketing resources than
we have. Our competitors could use their greater financial resources to acquire other
companies to gain enhanced name recognition and market share, as well as to develop new
technologies or products that could effectively compete with our existing product lines.

We outsource the manufacturing of
our products to a small number of manufacturing subcontractors. If our
subcontractors operations are interrupted or if our orders exceed our
subcontractors manufacturing capacity, we may not be able to deliver our products to
customers on time.

We
outsource the manufacturing of our products to three subcontractors located in Israel.
These subcontractors have limited manufacturing capacity that may be inadequate if our
customers place orders for unexpectedly large quantities of our products. In addition,
because our subcontractors are located in Israel, they on occasion may feel the impact of
potential economic or political instability in the region. If the operations of one or
more of these subcontractors were halted or limited, even temporarily, or if they were
unable or unwilling to fulfill large orders, we could experience business interruption,
increased costs, damage to our reputation and loss of our customers. In addition,
qualifying new subcontractors could take several months.

We depend upon third-party
suppliers, making us vulnerable to supply shortages and price fluctuations, which could
harm our business.

Many
of the components that comprise our products are currently manufactured by a limited
number of suppliers. Although each of our components is obtained from at least three
separate suppliers, we do not have the ability to manufacture these components. A supply
interruption or an increase in demand beyond current suppliers capabilities could
harm our ability to manufacture our products until we identify and qualify a new source of
supply, which could take several months.

Any
interruption in the supply of components or materials, or our inability to obtain
substitute components or materials from alternate sources at acceptable prices in a timely
manner, could impair our ability to meet the demand of our customers, which would have an
adverse effect on our business.

7

---

---

We sell our products in a number
of countries and therefore our results of operations could suffer if we are unable to
manage our international operations effectively.

We
are headquartered in Israel and have offices in the United States, Canada, and Germany. We
depend on third-party distributors in Europe, except in Germany and Austria, and in Asia,
Australia, South America and Japan. We also depend on relatively new direct sales
operations to sell our products in North America, Germany and Austria. Therefore, we are
subject to risks associated with having worldwide operations. Substantially all of our
revenue in 2003 and 2004 was generated outside of Israel, primarily in North America and
to a lesser extent in Western Europe and Asia. Only an immaterial amount of our revenues
in 2003 and 2004 was generated in countries in the Middle East other than Israel. Part of
our strategy is to expand our sales in existing markets and to enter new foreign markets.
Expansion of our international business will require significant management attention and
financial resources. Our international sales and operations subject us to many risks
inherent in international business activities, including:

| |  | foreign
certification and regulatory requirements;
| | - | --------------------------------------------------

| |  | lengthy
payment cycles and difficulty in collecting accounts receivable;
| | - | ------------------------------------------------------------------------

| |  | customs
clearance and shipping delays;
| | - | --------------------------------------

| |  | import
and export controls;
| | - | ---------------------------

| |  | multiple
and possibly overlapping tax structures;
| | - | -------------------------------------------------

| |  | greater
difficulty in safeguarding intellectual property in some countries;
| | - | ---------------------------------------------------------------------------

| |  | difficulties
staffing and managing our international operations;
| | - | ----------------------------------------------------------------

| |  | difficulties
in penetrating markets in which our competitors' products are more established; and
| | - | ------------------------------------------------------------------------------------------------

| |  | economic
instability.
| | - | ---------------------

In
addition, we face particular risks associated with doing business in Western Europe,
including, political instability and the threat of terror attacks.

Exchange rate fluctuations may
decrease our earnings if we are not able to hedge our currency exchange risks
successfully.

A
majority of our revenues and a substantial portion of our expenses are denominated in U.S.
dollars. However, a portion of our revenues and a portion of our costs, including
personnel and some marketing and facilities expenses, are incurred in New Israeli Shekels
and the Euro. Inflation in Israel or Europe may have the effect of increasing the U.S.
dollar cost of our operations in that country. If the U.S. dollar declines in value in
relation to one or more of these currencies, it will become more expensive for us to fund
our operations in the countries that use those other currencies. During 2003 and 2004, the
exchange rate of the U.S. dollar to the Euro and the U.S. dollar to the New Israeli Shekel
declined significantly.

To
date, we have not found it necessary to hedge the risks associated with fluctuations in
currency exchange rates. In the future, if we do not successfully engage in hedging
transactions, our results of operations may be subject to losses from fluctuations in
foreign currency exchange rates.

8

---

---

If we fail to obtain and maintain
necessary U.S. Food and Drug Administration clearances for our products and indications,
if clearances for future products and indications are delayed or not issued, or if there
are U.S. federal or state level regulatory changes, our commercial operations could be
harmed.

Most
of our products are medical devices subject to extensive regulation in the United States
by the Food and Drug Administration, or FDA, for manufacturing, labeling, sale, promotion,
distribution and shipping. Before a new medical device, or a new use of, or claim for, an
existing product can be marketed in the United States, it must first receive either 510(k)
clearance or premarket approval from the FDA, unless an exemption applies. Either process
can be expensive and lengthy. The FDAs 510(k) clearance process usually takes from
three to twelve months, but it can last longer. The process of obtaining premarket
approval is much more costly and uncertain than the 510(k) clearance process and it
generally takes from one to three years, or even longer, from the time the application is
filed with the FDA. We believe that very few of our existing or currently planned products
are subject to FDA premarket approval. All products that we currently market in the United
States have received 510(k) clearance for the uses for which they are marketed. In
addition, in June 2005, the FDA granted 510(k) clearance to our Vela platform for the
temporary reduction in the appearance of cellulite and for the relief of minor muscle
aches, pain and spasms, as well as the temporary improvement of local blood circulation.
As a result of this 510(k) clearance we are now able to sell the Vela in the United States
to physicians.

Medical
devices may be marketed only for the indications for which they are approved or cleared.
We have obtained 510(k) clearance for the current treatments for which we offer our
products. However, our clearances can be revoked if safety or effectiveness problems
develop. Any modifications to an FDA-cleared device that would significantly affect its
safety or effectiveness or that would constitute a major change in its intended use would
require a new 510(k) clearance or possibly premarket approval. We may not be able to
obtain additional 510(k) clearances or premarket approvals for new products or for
modifications to, or additional indications for, our existing products in a timely
fashion, or at all. Delays in obtaining future clearances would adversely affect our
ability to introduce new or enhanced products in a timely manner, which in turn would harm
our revenue and future profitability. We have made modifications to our devices in the
past and may make additional modifications in the future that we believe do not or will
not require additional clearances or approvals. If the FDA disagrees, and requires new
clearances or approvals for the modifications, we may be required to recall and to stop
marketing the modified devices. We also are subject to Medical Device Reporting
regulations, which require us to report to the FDA if our products cause or contribute to
a death or serious injury, or malfunction in a way that would likely cause or contribute
to a death or serious injury. Our products and/or their use are also subject to state
regulations, which are, in many instances, in flux. Changes in state regulations may
impede sales. We cannot predict the impact or effect of future legislation or regulations
at the federal or state levels.

The
FDA and state authorities have broad enforcement powers. Our failure to comply with
applicable regulatory requirements could result in enforcement action by the FDA or state
agencies, which may include any of the following sanctions:

| |  | warning
letters, fines, injunctions, consent decrees and civil penalties;
| | - | -------------------------------------------------------------------------

| |  | repair,
replacement, refunds, recall or seizure of our products;
| | - | ----------------------------------------------------------------

| |  | issuing
an import alert to block entry of products the FDA has reason to believe are violative of
applicable regulatory requirements;
| | - | -------------------------------------------------------------------------------------------------------------------------------------

| |  | operating
restrictions or partial suspension or total shutdown of production;
| | - | -----------------------------------------------------------------------------

| |  | refusing
our requests for 510(k) clearance or premarket approval of new products, new intended
uses, or modifications          to existing products;
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------

| |  | withdrawing
510(k) clearance or premarket approvals that have already been granted; and
| | - | ---------------------------------------------------------------------------------------

| |  | criminal
prosecution.
| | - | ---------------------

If
any of these events were to occur, it could harm our business.

9

---

---

If we or our subcontractors fail
to comply with the FDAs Quality System Regulation and performance standards,
manufacturing operations could be halted, and our business would suffer.

We
and our subcontractors are required to demonstrate and maintain compliance with the
FDAs Quality System Regulation, or QSR. The QSR is a complex regulatory scheme that
covers the methods and documentation of the design, testing, control, manufacturing,
labeling, quality assurance, packaging, storage and shipping of our products. Because our
products use optical energy, including lasers, our products also are covered by a
performance standard for lasers set forth in FDA regulations. The laser performance
standard imposes specific record-keeping, reporting, product testing and product labeling
requirements. These requirements include affixing warning labels to laser products, as
well as incorporating certain safety features in the design of laser products. The FDA
enforces the QSR and laser performance standards through periodic unannounced inspections.
We and our subcontractors are subject to such inspections. Although we place our own
quality control employee at each of our subcontractors facilities, we do not have
complete control over our subcontractors compliance with these standards. Any
failure by us or our subcontractors to take satisfactory corrective action in response to
an adverse QSR inspection or to comply with applicable laser performance standards could
result in enforcement actions against us or our subcontractors, including a public warning
letter, a shutdown of manufacturing operations, a recall of our products, civil or
criminal penalties, or other sanctions, such as those described in the preceding
paragraph, which could cause our sales and business to suffer. In addition, we are subject
to standards imposed on our activities outside of the United States, such as obtaining
KEMA certification (electrical safety testing and certification in Europe) and the
Standards Institution of Israel (imposed on our activities in Israel), and failure to
comply with such standards could adversely impact our business.

We may be unable to obtain or
maintain international regulatory qualifications or approvals for our current or future
products and indications, which could harm our business.

Sales
of our products outside the United States are subject to foreign regulatory requirements
that vary widely from country to country. Complying with international regulatory
requirements can be an expensive and time-consuming process and approval is not certain.
The time required to obtain clearance or approvals, if required by other countries, may be
longer than that required for FDA clearance or approvals, and requirements for such
clearances or approvals may significantly differ from FDA requirements. Although we have
obtained regulatory approvals in the European Union and other countries outside the United
States, we may be unable to maintain regulatory qualifications, clearances or approvals in
these countries or to obtain approvals in other countries. We also may incur significant
costs in attempting to obtain and in maintaining foreign regulatory approvals or
qualifications. If we experience delays in receiving necessary qualifications, clearances
or approvals to market our products outside the United States, or if we fail to receive
those qualifications, clearances or approvals, we may be unable to market some of our
products or enhancements in certain international markets effectively, or at all.

# New regulations may
limit our ability to sell to non-physicians.

We
sell our products to physicians and, outside the United States, to aestheticians. In
addition, we intend to introduce our products in the developing U.S. medical spa market,
where aesthetic procedures are being performed at dedicated facilities by non-physicians
under physician supervision. However, U.S., state and international regulations could
change at any time, disallowing sales of our products to aestheticians, and limiting the
ability of aestheticians and non-physicians to operate our products. We cannot predict the
impact or effect of changes in U.S., state or international laws or regulations.

Because we do not require training
for users of our products, and sell our products to non-physicians, there exists potential
for misuse of our products, which could harm our reputation and our business.

In
the United States, federal regulations allow us to sell our products to or on the order of
licensed practitioners. The definition of licensed practitioners
varies from state to state. As a result, depending on state law, our products may be
purchased or operated by physicians or other licensed practitioners, including nurse
practitioners, chiropractors and technicians. Outside the United States, many
jurisdictions do not require specific qualifications or training for purchasers or
operators of our products. We do not supervise the procedures performed with our products,
nor do we require that direct medical supervision occur. While we offer our users the
opportunity to receive on-site clinical training through our Ultimate Customer
Care program, we and our distributors do not require purchasers or operators of our
products to attend training sessions. The lack of required training and the purchase and
use of our products by non-physicians may result in product misuse and adverse treatment
outcomes, which could harm our reputation and expose us to costly product liability
litigation.

10

---

---

Product liability suits could be
brought against us due to defective material or design, or due to misuse of our products,
and could result in expensive and time-consuming litigation, payment of substantial
damages and an increase in our insurance rates.

If
our products are defectively designed, manufactured or labeled, contain defective
components or are misused, we may become subject to substantial and costly litigation by
our customers or their patients. Misusing our products or failing to adhere to operating
guidelines could cause significant eye and skin damage, and underlying tissue damage. In
addition, if our operating guidelines are found to be inadequate, we may be subject to
liability. We have been involved, and may in the future be involved, in claims related to
the use of our products. Product liability claims could divert managements attention
from our core business, be expensive to defend and result in sizable damage awards against
us. We have only been involved in five disputes between our customers and their patients
that involved potential product liability claims since inception. None of these disputes
resulted in litigation against us, although in some cases payments were made by an
insurance carrier. We may not be able to obtain insurance in amounts or scope sufficient
to provide us with adequate coverage against all potential liabilities. Any product
liability claims brought against us, with or without merit, could increase our product
liability insurance rates or prevent us from securing continuing coverage, could harm our
reputation in the industry and reduce product sales. Product liability claims in excess of
our insurance coverage would be paid out of cash reserves harming our financial condition
and reducing our operating results.

Components used in our products
are complex in design, and defects may not be discovered prior to shipment to customers,
which could result in warranty obligations, reducing our revenue and increasing our costs.

In
manufacturing our products, we and our subcontractors depend upon third-party suppliers
for various components. Many of these components require a significant degree of technical
expertise to produce. If our suppliers fail to produce components to specification, or if
the suppliers, our subcontractors, or we, use defective materials or workmanship in the
manufacturing process, the reliability and performance of our products will be
compromised.

If
our products contain defects that cannot be repaired easily and inexpensively, we may
experience:

| |  | loss
of customer orders and delay in order fulfillment;
| | - | -------------------------------------------------------

| |  | damage
to our brand reputation;
| | - | -------------------------------

| |  | increased
cost of our warranty program due to product repair or replacement;
| | - | ----------------------------------------------------------------------------

| |  | inability
to attract new customers;
| | - | -----------------------------------

| |  | diversion
of resources from our manufacturing and research and development departments into our
service department;
| | - | -------------------------------------------------------------------------------------------------------------------

| |  | product
recalls; and
| | - | --------------------

| |  | legal
action.
| | - | -------------

The
occurrence of any one or more of the foregoing could materially harm our business.

11

---

---

We forecast sales to determine
requirements for our products and if our forecasts are incorrect, we may experience either
shipment delays or increased costs.

Our
subcontractors keep limited materials and components on hand. To help them manage their
manufacturing operations and minimize inventory costs, we forecast anticipated product
sales to predict our inventory needs up to six months in advance and enter into purchase
orders on the basis of these requirements. Our limited historical experience may not
provide us with enough data to accurately predict future demand. If our business expands,
our demand would increase and our suppliers may be unable to meet our demand. If we
overestimate our requirements, our subcontractors will have excess inventory, and may
transfer to us any increase in costs. If we underestimate our requirements, our
subcontractors may have inadequate components and materials inventory, which could
interrupt, delay or prevent delivery of our products to our customers. Any of these
occurrences would negatively affect our financial performance and the level of
satisfaction our customers have with our business.

The failure to attract and retain
key personnel could adversely affect our business.

Our
success also will depend in large part on our ability to continue to attract, retain and
motivate qualified engineering and other highly skilled technical personnel. Competition
for certain employees, particularly development engineers, is intense. We may be unable to
continue to attract and retain sufficient numbers of highly skilled employees. Our
inability to attract and retain additional key employees or the loss of one or more of our
current key employees could adversely affect our business, financial condition and results
of operations.

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

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

The expense and potential
unavailability of insurance coverage for our customers and our company could adversely
affect our ability to sell our products and our financial condition.

Some
of our customers and prospective customers are required to maintain liability insurance to
cover their operations and use of our products. Medical malpractice carriers are
withdrawing coverage in certain U.S. states or substantially increasing premiums. If this
trend continues or worsens, our customers may discontinue using our products and,
industry-wide, potential customers may opt against purchasing laser or light-based
products due to the cost and inability to procure insurance coverage.

12

---

---

# Risks Related to Our
Ordinary Shares

The price of our ordinary shares
has fluctuated substantially and we expect will continue to do so.

The
market price for our ordinary shares has been, and we expect will continue to be, affected
by a number of factors, including:

| |  | the
gain or loss of significant orders or customers;
| | - | ----------------------------------------------------

| |  | recruitment
or departure of key personnel;
| | - | ------------------------------------------

| |  | the
announcement of new products or service enhancements by us or our competitors;
| | - | ----------------------------------------------------------------------------------

| |  | announcements
regarding clearance or non-clearance of regulatory approval;
| | - | --------------------------------------------------------------------------

| |  | quarterly
variations in our or our competitors' results of operations;
| | - | ----------------------------------------------------------------------

| |  | announcements
related to litigation;
| | - | ------------------------------------

| |  | changes in earnings estimates, investors perceptions, recommendations by securities
analysts or our failure to achieve analysts earning estimates;
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------

| |  | developments
in our industry; and
| | - | ---------------------------------

| |  | general market conditions and other factors unrelated to our operating performance or the
operating performance of our competitors.
| | - | -----------------------------------------------------------------------------------------------------------------------------------

In
addition, the stock prices of many companies in the medical device industry have
experienced wide fluctuations that often have been unrelated to the operating performance
of those companies. These factors and price fluctuations may materially and adversely
affect the market price of our ordinary shares.

We are controlled by a small
number of existing shareholders, who may make decisions with which you may disagree.

Our
directors and officers, along with our five largest shareholders, in the aggregate,
beneficially owned or controlled approximately 42.1% of our outstanding ordinary shares as
of March 31, 2005. These shareholders are not prohibited from selling a controlling
interest in us to a third party. While these shareholders do not have the right to appoint
board members directly, these shareholders, acting together, could exercise significant
influence over our operations and business strategy and may have sufficient voting power
to influence all matters requiring approval by our shareholders, including the ability to
elect or remove directors, to approve or reject mergers or other business combination
transactions, the raising of future capital and the amendment of our articles of
association, which govern the rights attached to our ordinary shares. In addition, this
concentration of ownership may delay, prevent or deter a change in control, or deprive you
of a possible premium for your ordinary shares as part of a sale of our company.

# Future sales of our
ordinary shares could reduce our stock price.

On
February 1, 2005, lock-up agreements entered into with the underwriters of our initial
public offering restricting the sale of 16,941,649 of our ordinary shares expired.
6,785,826 of such ordinary shares were sold in our underwritten secondary offering of
March 2005. The holders of 16,533,775 of our ordinary shares have agreed that they will
not sell any additional ordinary shares for a period of 90 days following the date of our
underwritten secondary offering of March 2005. Sales by shareholders of substantial
amounts of our ordinary shares, or the perception that these sales may occur in the
future, could affect materially and adversely the market price of our ordinary shares. In
addition, holders of 8,721,225 of our ordinary shares are still entitled to require us to
register their ordinary shares.

13

---

---

On
November 16, 2004, we registered 7,159,932 ordinary shares that have been issued, or are
reserved for issuance upon the exercise of options granted or reserved for grant, under
our 2003 Stock Option Plan, 2004 Israel Stock Option Plan and 2004 United States and
Canada Stock Option Plan. 1,264,174 of such ordinary shares were sold in our underwritten
secondary offering of March 2005. Under the terms of our stock option plans, shareholders
cannot sell these shares in the public market until August 10, 2005, after which they will
be freely tradeable.

We have not paid dividends in the
past and do not expect to pay dividends in the future, and any return on investment may be
limited to the value of our stock.

We
have never paid cash dividends on our ordinary shares and do not anticipate paying cash
dividends on our ordinary shares in the foreseeable future. The payment of dividends on
our ordinary shares will depend on our earnings, financial condition and other business
and economic factors affecting us at such time as our board of directors may consider
relevant. We may only pay dividends in any fiscal year out of profits, as
defined by the Israeli Companies Law and, provided that the distribution is not reasonably
expected to impair our ability to fulfill our outstanding and expected obligations. If we
do not pay dividends, our stock may be less valuable because a return on your investment
will only occur if our stock price appreciates. We have decided to reinvest the amount of
tax exempt income derived from our Approved Enterprise status and not to
distribute that income as dividends.

U.S.
          investors in our company could suffer adverse tax consequences if we are
          characterized as a passive foreign investment company.

If,
for any taxable year, our passive income or our assets that produce passive income exceed
levels provided by law, we may be characterized as a passive foreign investment company,
or PFIC, for U.S. federal income tax purposes. This characterization could result in
adverse U.S. tax consequences to our shareholders. If we were classified as a passive
foreign investment company, a U.S. Holder could be subject to increased tax liability upon
the sale or other disposition of ordinary shares or upon the receipt of amounts treated as
excess distributions. Under these rules, the excess distribution and any gain
would be allocated ratably over the U.S. Holders holding period for the ordinary
shares, and the amount allocated to the current taxable year and any taxable year prior to
the first taxable year in which we were a passive foreign investment company would be
taxed as ordinary income. The amount allocated to each of the other taxable years would be
subject to tax at the highest marginal rate in effect for the applicable class of taxpayer
for that year, and an interest charge for the deemed deferral benefit would be imposed on
the resulting tax allocated to such other taxable years. The tax liability with respect to
the amount allocated to years prior to the year of the disposition, or excess
distribution, cannot be offset by any net operating losses. In addition, holders of
shares in a passive foreign investment company may not receive a step-up in
basis on shares acquired from a decedent. U.S. shareholders should consult with their own
U.S. tax advisors with respect to the U.S. tax consequences of investing in our ordinary
shares as well as the specific application of the excess distribution and
other rules discussed in this paragraph. For a discussion of how we might be characterized
as a PFIC and related tax consequences, please see Item 10.E. Taxation  United
States Federal Income Tax Considerations  Passive Foreign Investment Company
Considerations.

# Risks Related to Our
Operations in Israel

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

Our
principal executive offices and research and development facilities are located in Israel.
In addition, all of our subcontractors are located in Israel. Accordingly, political,
economic and military conditions in Israel may affect directly our business. Since the
establishment of the State of Israel in 1948, a number of armed conflicts have occurred
between Israel and its Arab neighbors. Any hostilities involving Israel or the
interruption or curtailment of trade between Israel and its present trading partners could
affect adversely our operations. Since October 2000, terrorist violence in Israel has
increased significantly. Ongoing and revived hostilities or other Israeli political or
economic factors could harm our operations and product development and cause our sales to
decrease. Furthermore, several countries, principally those in the Middle East still
restrict business with Israel and Israeli companies. These restrictive laws and policies
may limit seriously our ability to sell our products in these countries.

14

---

---

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

Many
of our male employees in Israel, including members of senior management, are obligated to
perform up to 36 days of military reserve duty annually until they reach age 48 and, in
the event of a military conflict, could be called to active duty. Our operations could be
disrupted by the absence of a significant number of our employees related to military
service or the absence for extended periods of military service of one or more of our key
employees. A disruption could materially adversely affect our business.

You may have difficulties
enforcing a U.S. judgment against us and/or our executive officers and directors or
asserting U.S. securities laws claims in Israel.

A
significant portion of our assets and the assets of our directors and executive officers
are located outside the United States. Therefore, a judgment obtained against us or any of
them in the United States, including one based on the civil liability provisions of the
U.S. federal securities laws, may not be collectible in the United States and may not be
enforced by an Israeli court. Further, if a foreign judgment is enforced by an Israeli
court, it will be payable in Israeli currency. It also may be difficult for you to assert
U.S. securities law claims in original actions instituted in Israel.

The tax benefits available to us
require us to meet several conditions and may be terminated or reduced in the future,
which would increase our costs and taxes.

We
have generated income and are able to take advantage of tax exemptions and reductions
resulting from the Approved Enterprise status of our facilities in Israel. To
remain eligible for these tax benefits, we must continue to meet conditions, including
making specified investments in property and equipment, and financing a percentage of
investments with share capital. If we fail to meet these conditions in the future, the tax
benefits would be canceled and we could be required to refund any tax benefits we might
already have received. These tax benefits may not be continued in the future at their
current levels or at any level. In recent years, the Israeli government has reduced the
benefits available and has indicated that it may further reduce or eliminate some of these
benefits in the future. The termination or reduction of these tax benefits may increase
our expenses in the future, which would reduce our expected profits or increase our
losses. Additionally, if we increase our activities outside of Israel, for example, by
future acquisitions, our increased activities generally will not be eligible for inclusion
in Israeli tax benefit programs. In 2004, the tax benefit derived from our approved
enterprise status was approximately $9.4 million, which represents approximately 35.0% of
our income before taxes. Under our first tax benefit plan, we have invested approximately
$720,000 in fixed assets of which $223,000 was from paid-in capital as required by the
financing condition of the approved plan. We are required under our second tax benefit
plan, which was approved on January 23, 2005, to invest an additional $485,000 in fixed
assets and intend to do so through 2005 and 2006. See Item 10.E Taxation 
Israeli Taxation  Law for the Encouragement of Capital Investments, 1959" for
more information about these programs.

15

---

---

The government grants we have
received for research and development expenditures restrict our ability to manufacture
products and transfer technologies outside of Israel and require us to satisfy specified
conditions. If we fail to satisfy these conditions, we may be required to refund grants
previously received together with interest and penalties, and may be subject to criminal
charges.

From
2000 to 2003, we received grants totaling $397,000 from the government of Israel through
the Office of the Chief Scientist of the Israeli Ministry of Industry, Trade and Labor for
the financing of a portion of our research and development expenditures for our Polaris
and Galaxy product platforms. The terms of the Chief Scientist grants prohibit us from
manufacturing products or transferring technologies developed using these grants outside
of Israel without special approvals. We have no current plan to manufacture products or
transfer technologies developed using these grants outside of Israel. Even if we receive
approval to manufacture our products outside of Israel, we may 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. This
restriction may impair our ability to outsource manufacturing or engage in similar
arrangements for those products or technologies. In addition, if we fail to comply with
any of the conditions imposed by the Office of the Chief Scientist, we may be required to
refund any grants previously received together with interest and penalties, and may be
subject to criminal charges. In recent years, the government of Israel has accelerated the
rate of repayment of Chief Scientist grants and may further accelerate them in the future.

Provisions of our articles of
association and Israeli law may delay, prevent or make difficult an acquisition of
Syneron, which could prevent a change of control and, therefore, depress the price of our
shares.

Israeli
corporate law regulates mergers, requires tender offers for acquisitions of shares above
specified thresholds, requires special approvals for transactions involving directors,
officers or significant shareholders and regulates other matters that may be relevant to
these types of transactions. In addition, our articles of association contain provisions
that may make it more difficult to acquire our company, such as classified board
provisions. Furthermore, Israeli tax considerations may make potential transactions
unappealing to us or to some of our shareholders. See Item 7.B Related Party
Transactions and Item 10.E Taxation  Israeli Taxation for
additional discussion about some anti-takeover effects of Israeli law.

These
provisions of Israeli law may delay, prevent or make difficult an acquisition of Syneron,
which could prevent a change of control and therefore depress the price of our shares.

|ITEM 4. |  | INFORMATION
ON THE COMPANY
|------- |  | --------------------------

|A. | HISTORY
AND DEVELOPMENT OF THE COMPANY
|-- | --------------------------------------

# Our History

Syneron
Medical Ltd. was incorporated in the State of Israel in July 2000. Our headquarters are
located at Industrial Zone, Yokneam Illit, 20692, P.O.B. 550, Israel. Our phone number is
(972-4) 909-6200. The agent for service of process in the United States is Syneron Inc.,
incorporated in the State of Delaware and located at 1104 Heinz Drive, Unit B, East
Dundee, Illinois 60118. Our website address is www.syneron.com.

We
first offered our shares to the public in August, 2004. Upon the closing of our initial
public offering all our then outstanding preferred shares automatically converted into
ordinary shares and we affected a 3.4 for one split of our ordinary shares.

We
design, develop and market innovative aesthetic medical products based on our proprietary
Electro-Optical Synergy, or ELOS, technology, which uses the synergy between electrical
energy and optical energy to provide effective, safe and affordable aesthetic medical
treatments. Our products, which we sell primarily to physicians and other practitioners,
target a wide array of non-invasive aesthetic medical procedures, including hair removal,
wrinkle reduction, rejuvenation of the skins appearance through the treatment of
superficial benign vascular and pigmented lesions, and treatment for the temporary
reduction in the appearance of cellulite. We believe ELOS provides performance advantages
over existing technologies that rely solely on optical energy. We believe using optical
energy alone limits the safety and efficacy of many aesthetic medical procedures due to
limited skin penetration and unwanted epidermal absorption. Our proprietary ELOS
technology, which combines optical and electrical energy, enhances the users ability
to accurately target the tissue to be treated and enables real-time measurement of skin
temperature, resulting in increased patient safety and comfort and improved treatment
results.

16

---

---

During
2000 and 2001, our primary activity was the development and approval of our first product
platform, the Aurora, which utilizes our ELOS technology. We received our CE Mark approval
in Europe in November 2001 and launched sales of the Aurora product platform in December
2001. We received 510(k) clearance from the FDA for hair removal for the Aurora product
platform in July 2002. In October 2002, we received 510(k) clearance from the FDA to
market the Aurora product platform for the treatment of superficial benign vascular and
pigmented lesions. In August 2002, we introduced the Aurora product platform commercially
in the United States.

We
launched the Polaris product platform in May 2003 after receiving our CE Mark approval in
Europe for the product in December 2002. In April 2003, we received 510(k) clearance from
the FDA to market the Polaris product platform for leg vein treatment as well as other
types of vascular lesions. In December 2003, we introduced the Polaris product platform
commercially in the United States.

We
received our CE Mark approval in Europe for the Pitanga product platform in May 2003.
During the fourth quarter of 2003, we launched the Pitanga product platform for the
treatment of acne and hair removal in Europe and Canada.

We
launched the Galaxy product platform in May 2004. We received our CE Mark approval in
Europe for the Galaxy product platform in May 2004. The 510(k) clearances from the FDA
also provide the regulatory basis for the marketing of the Galaxy product for all
applications. We introduced the Galaxy product platform commercially in the United States
in May 2004.

During
2004, we significantly expanded our direct sales and marketing organization in North
America to approximately 50 employees, established a distribution network in eleven
countries in the Asia-Pacific region and increased our sales and marketing efforts in
Europe. We increased our sales and marketing effort in 2004 in connection with new product
introductions and other marketing activities planned for 2004. In 2004, we introduced
three new product platforms: the Galaxy, which combines the applications of the Aurora and
the Polaris product platforms, the Vela, for the temporary reduction in the appearance of
cellulite and the Comet, for hair removal. Our Galaxy and Comet platforms are covered by
our present FDA clearances. In addition, in June 2005, the FDA granted 510(k) clearance to
our Vela platform for the temporary reduction in the appearance of cellulite and for the
relief of minor muscle aches, pain and spasms, as well as the temporary improvement of
local blood circulation. As a result of this 510(k) clearance we are now able to sell the
Vela in the United States to physicians.

# Principal Capital
Expenditures

We
had capital expenditures of $1.5 million in 2004, $0.3 million in 2003 and $0.2 million in
2002. We expect that our capital expenditures will be approximately $1 million in 2005. We
have financed our capital expenditures with cash generated from operations.

Our
capital expenditures in 2004 consisted primarily of purchases of a patent, software,
manufacturing equipment and general equipment. We expect our capital expenditures in 2005
to consist of the same types of capital expenditures that we had in 2004. Our capital
expenditures in 2003 and 2002 consisted primarily of purchases of lab equipment, test
equipment, computers, software and ERP software.

17

---

---

|B. | BUSINESS
OVERVIEW
|-- | -----------------

# Overview

We
design, develop and market innovative aesthetic medical products based on our proprietary
Electro-Optical Synergy, or ELOS, technology, which uses the synergy between electrical
energy and optical energy to provide effective, safe and affordable aesthetic medical
treatments. Our products, which we sell primarily to physicians and other practitioners,
target a wide array of non-invasive aesthetic medical procedures, including hair removal,
wrinkle reduction, rejuvenation of the skins appearance through the treatment of
superficial benign vascular and pigmented lesions, and treatment for the temporary
reduction in the appearance of cellulite. We believe ELOS provides performance advantages
over existing technologies that rely solely on optical energy. We believe using optical
energy alone limits the safety and efficacy of many aesthetic medical procedures due to
limited skin penetration and unwanted epidermal absorption. The addition of radiofrequency
energy, an electrical energy, lessens absorption in the outer layer of skin, or epidermis,
and allows for greater skin penetration. Using radiofrequency and optical energy together
enhances the ability of the user to target, or select, accurately the tissue to be treated
and enables real-time measurement of skin temperature, enhancing patient safety and
comfort. Following the launch of our first product, the Aurora, based on our ELOS
technology in December 2001, our revenues have grown from $11.5 million in 2002 to $35.0
million in 2003 to $57.9 million in 2004.

Our
family of aesthetic products is based on our ELOS technology. Each product platform
consists of one or more handpieces and a console that incorporates the multiple energy
sources, sophisticated software and a simple, user-friendly interface. Our consoles have a
small footprint and are lightweight compared to competitive systems which are typically
larger and heavier. Our products can be easily upgraded by the user to perform additional
applications by adding handpieces and installing a software plug in the console. We seek
to deliver to our users the ability to generate increased practice revenue through
additional service offerings. We also seek to provide predictable costs of ownership by
minimizing ongoing disposable and maintenance expenses and providing a parts and services
warranty. We support our users with our Ultimate Customer Care program, which
includes on-site clinical training, customized practice development consultations and a
product maintenance program that offers next-day delivery of replacement products to
eliminate unnecessary downtime.

We
launched the Aurora, our first product platform, in December 2001. We introduced the
Pitanga and the Polaris product platforms in 2003. In 2004, we introduced the Galaxy, the
Vela and the Comet product platforms. Our products address traditional applications,
including rejuvenating the skins appearance through the treatment of superficial
benign vascular and pigmented lesions, hair removal and the treatment of leg veins, as
well as newer applications including wrinkle reduction, permanent reduction of hair and
the temporary reduction in the appearance of cellulite. We have received 12 510(k)
clearances from the FDA (all applications of our products are approved except for the
temporary reduction in the appearance of cellulite, for which we are applying for 510(k)
clearance or premarket approval) and 13 CE Mark approvals, as well as regulatory approvals
in other countries. We sell our products in 41 countries through a direct sales force of
approximately 40 employees in North America and 35 distributors in Europe, the Middle
East, Asia, Australia, New Zealand and South America. As of March 31, 2005, we had an
installed base of over 2,600 products.

# Industry

Aesthetic
Market Opportunity.Aesthetic procedures have traditionally been performed by
dermatologists, plastic surgeons and other cosmetic surgeons, of whom there are
approximately 30,000 in the United States alone based on published membership numbers of
professional medical organizations. Although no industry estimates are available, based on
our marketing efforts and interviews with physicians, we believe that a broader group of
approximately 200,000 physicians in the United States, including primary care physicians,
obstetricians/gynecologists, ear, nose and throat specialists, ophthalmologists and other
specialists, are candidates for incorporating aesthetic procedures into their practices.
Outside the United States, aesthetic procedures also are performed by non-medical
professionals, which we refer to as aestheticians. In the United States, a medical spa
market also is developing, where aesthetic procedures are performed at dedicated
facilities by non-physicians under physician supervision.

18

---

---

Growth
in the aesthetic procedure market is driven by:

| |  | the
aging of the population in the western world;
| | - | -------------------------------------------------

| |  | the
increasing desire of many individuals to improve their appearance;
| | - | ----------------------------------------------------------------------

| |  | the
impact of managed care and reimbursement on physician economics, which has motivated
physicians to establish or expand the menu of elective, private-pay aesthetic procedures
that they offer;
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | the
growing number of conditions, including acne, wrinkles and cellulite, that can be treated
non-invasively; and
| | - | -----------------------------------------------------------------------------------------------------------------

| |  | the
reduction in costs per procedure, which has attracted a broader base of consumers.
| | - | --------------------------------------------------------------------------------------

The
price, profitability and demand for aesthetic medical products and services are not
dependent on the reimbursement policies of public or private third-party payers. These
products and services generally are not subject to reimbursement by third-party payers
and, therefore, companies engaged in this industry face limited risk from changes in
governmental and third-party payer methodologies and reimbursement rates.

The
June 2004 Medical Insight, Inc. Global Aesthetic Market Study estimated that
over 40 million non-invasive aesthetic medical procedures would be performed worldwide in
2004, and projected that this number will increase to over 60 million in 2006,
representing a compounded annual growth rate of over 20%. We estimate that the annual
expenditures on non-invasive aesthetic medical equipment were $650 million in 2004 for
both the replacement and new equipment markets. We believe this estimate to be reasonable
since it is based on published revenue figures for public companies, and on our
conversations with the management of private companies, that we compete with in the
non-invasive aesthetic medical equipment market and target the same customer base as us.
We believe the market is poised for significant growth based on improvements in
technology, a dramatic increase in the user base and improved treatment results.

Laser
and other light-based aesthetic procedures typically have included hair removal,
rejuvenating the skins appearance through the treatment of superficial benign
vascular and pigmented lesions and the treatment of leg veins. In addition to these
traditional procedures, new and emerging applications are being introduced to the market,
including the treatment of acne and wrinkles and the temporary reduction in the appearance
of cellulite.

The
Structure of Human Skin and Aesthetic Treatment Alternatives.The human skin
consists of several layers. The epidermis is the outer layer and contains the cells that
determine pigmentation, or skin color. The dermis, which is underneath the epidermis, is
approximately 2.0 millimeters thick and contains hair follicles and large and small blood
vessels at various depths. Beneath the dermis is a layer which includes subdermal fat and
collagen, which provides strength and flexibility to the skin.

The
appearance of the skin may change over time due to a variety of factors including age, sun
damage, circulatory changes, deterioration of collagen, and the human bodys
diminished ability to repair and renew itself. These changes may include undesirable hair
growth, uneven pigmentation, wrinkles, and blood vessels and veins which are visible at
the skins surface. People with undesirable skin conditions or unwanted hair growth
often seek aesthetic treatments.

Invasive
Aesthetic Procedures.Common aesthetic procedures include skin rejuvenation
through microdermabrasion, hair removal, the treatment of leg veins and, more recently,
the treatment of wrinkles. Many alternative aesthetic therapies are available to treat
each of these conditions. Invasive aesthetic procedures, which utilize injections or
abrasive agents to reach different depths of the dermis and the epidermis, include:

| |  | electrolysis
for hair removal, a procedure which involves an electric current flowing through a needle
inserted into individual hair follicles;
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------

19

---

---

| |  | sclerotherapy
for vein treatments, a procedure which involves saline or a detergent-based solution
inserted into a target vein to break down and collapse the targeted vessel; and
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | chemical
peels, Botox and collagen injections and microdermabrasions for skin rejuvenation and
temporary facial wrinkle removal.
| | - | --------------------------------------------------------------------------------------------------------------------------------

Each
of these invasive procedures has varying degrees of effectiveness. Further, each of the
procedures has limitations resulting from the degree of difficulty of the procedure and
skill level required of the user, the cost and length of the procedure, the required
number of treatments necessary to achieve the desired result, the level of pain and
discomfort experienced by the patient, the post-procedure side effects and complications
and whether the procedure results in temporary versus permanent changes.

Non-Invasive
Aesthetic Procedures.In addition to invasive alternatives, non-invasive
aesthetic treatments have been developed using lasers and other light-based technologies
to achieve therapeutic outcomes which are similar to or better than those achieved using
invasive treatments. These technologies work by producing intense bursts of highly focused
light, or optical energy, to selectively target hair follicles, veins or collagen in the
dermis, as well as cells responsible for pigmentation in the epidermis. Safe and effective
laser and other light-based treatments require an appropriate combination of the following
four parameters:

| |  | Energy
Level:the amount of light emitted to heat a target;
| | - | ----------------------------------------------------------

| |  | Pulse
Duration:the time interval over which the energy is delivered;
| | - | --------------------------------------------------------------------

| |  | Spot
Size: the diameter of the energy beam, which affects treatment depth, due to
frequent deflection of light energy during skin penetration, and area; and
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Wavelength: the
color of the light, which impacts the effective depth and absorption of the energy
delivered.
| | - | -------------------------------------------------------------------------------------------------------------

The
treatment of different aesthetic conditions requires the use of different types of lasers
and light-based technologies. As a result, an active aesthetic practice typically requires
multiple light or laser-based technologies to offer patients access to a broad range of
procedures.

The
Evolution of Light or Laser-Based Technologies in Non-Invasive Aesthetic
Medicine.Lasers were first used for medical applications in the 1960s.
First generation aesthetic medical lasers introduced in the 1970s and 1980s
were characterized by single wavelengths, small spot sizes and depth of skin penetration
generally limited to 0.5 millimeters. The optical energy was heavily absorbed by blood and
moderately absorbed by the epidermis, with much heavier epidermal absorption in darker
pigmented skins. These lasers were used primarily for the treatment of shallow and small
vessel vascular lesions, including port wine stains and hemangiomas. While effective in
selective applications, these initial first generation technologies appealed
to only a small group of users and often required an extended treatment recovery period.

In
the mid-1990s, a second generation technology called intense pulsed light was
introduced. These multiple wavelength, broad spectrum light sources had variable pulse
durations, a larger spot size, and were able to penetrate into the skin approximately 1.0
to 2.0 millimeters. These technologies expanded the range of applications to include the
treatment of pigmented lesions and small leg veins, and the removal of hair follicles, but
were not effective in the treatment of large leg veins, the removal of light hair
follicles or the treatment of patients with naturally dark skin tones.

20

---

---

# Limitations of Existing
Technologies

While
the use of light or laser-based aesthetic procedures has grown over the last two decades,
many limitations remain.

| |  | Challenge
of Penetrating Epidermal Barrier to Consistently and Predictably Control Treatment Depth.Non-invasive
light or laser-based aesthetic treatments use optical energy to heat target tissue in the
skin selectively. Efficacy depends on the level of optical energy that penetrates through
the epidermis and dermis to the target area. Epidermal pigmentation may limit the amount
of optical energy that can be used without damage. The depth of penetration is
approximately 1.0 to 2.0 millimeters for intense pulsed-light technologies and
approximately 0.5 to 2.0 millimeters for longer wavelength (in the range of 0.7 to 1.3
microns) lasers. Many treatments for aesthetic conditions require energy to penetrate
deeper than 2.0 millimeters into the layer of subdermal fat and collagen. Increasing the
amount of optical energy applied to the surface of the skin in order to achieve enough
heating at the required depth significantly increases the risk of damaging or burning the
epidermis.
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Poor
Selectivity.Success of light or laser-based aesthetic treatments depends on the
technologys ability to target blood vessels, hair follicles and deeper lying
pigments selectively without heating surrounding tissue and other structures. Despite
technological advances over the years, there are still significant limitations in
selectivity. A particular limitation exists in the treatment of non-pigmented targets,
including white hair and collagen.
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Lack
of Real-Time Temperature Feedback During Treatment Compromises Safety and Efficacy.Prior
to a laser or light-based aesthetic procedure, the user must set the amount of light and
pulse duration depending on the characteristics of the patients skin. Any
adjustments to treatment parameters must be made manually by the user since the equipment
does not adjust the parameters automatically. The user does not have access to real-time
information about skin temperature necessary to adjust these parameters appropriately
during the procedure. The lack of both real-time temperature feedback and automated
parameter adjustments can result in ineffective treatments, safety problems or the need
for multiple procedures to treat the affected area.
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Certain
Types of Patients and Aesthetic Procedures are Not Well Suited for Treatment.Current
technologies have been unable to treat all patients safely and effectively, particularly
those with naturally dark or tanned skin tones. There also are limitations on the
effectiveness of treating light hair and large leg veins of more than 2.0 millimeters in
depth. To date, most light or laser-based products have not been able to treat several
other prevalent aesthetic conditions, including acne, wrinkles and cellulite.
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Reliance
on High Power Optical Energy Imposes Engineering and Design Constraints.High
power optical energy requires larger and heavier equipment than electrical energy. The
cost of manufacturing equipment using optical-based energy sources increases
exponentially with the amount of power required.
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

We
believe that the market is poised to accept new sophisticated technology that can address
the shortcomings of current products. We also believe that in selecting solutions, users
are increasingly focusing on the economics of owning aesthetic treatment equipment,
including the likelihood of increased revenues, as well as the predictability of ownership
costs and are placing greater emphasis on product reliability, the quality of service
provided by the manufacturer, minimization of downtime required for maintenance, the
length of warranty coverage, and the ongoing cost of purchasing disposables and handpieces
following the initial console purchase.

21

---

---

# The Syneron Solution

Our
ELOS technology combines electrical and optical energy, each of which has unique
characteristics when used alone and, when used together, produce beneficial synergistic
effects. We believe that our ELOS technology represents a paradigm shift in non-invasive
aesthetic medicine because it is the first approach that combines conducted radiofrequency
energy, an electrical energy, and light or laser-based energy, an optical energy. Most
previously available technologies have relied solely on optical energy sources.

Optical
energy is absorbed in blood, hair follicles and skin pigments, resulting in a typical
depth of penetration of approximately 0.5 to 2.0 millimeters. Epidermal pigmentation may
limit the amount of optical energy that can be used without burning or damaging the skin.
Radiofrequency, or RF, energy differs from optical energy because it is not absorbed by
the epidermis. Our products use two electrodes to deliver RF energy, or bipolar RF energy.
The distance between the two electrodes controls the depth of penetration of the bipolar
RF energy. In our products, we have selected the distance between the two electrodes to
enable a depth of penetration of the bipolar RF energy of up to approximately 5.0
millimeters, which permits the treatment of a broad range of dermal and subdermal
aesthetic problems. Our products also contain a mechanism which simultaneously cools the
skins surface and decreases the skins conductivity, pushing the RF energy even
deeper into the skin. The use of RF energy enables real-time measurement of skin
temperature, which allows our products to provide real-time feedback for every pulse,
improving control of skin temperature and enhancing safety.

When
used together, RF and optical energy produce a unique synergistic effect. Optical energy
is used first to heat the target and decrease its resistance to RF energy. The RF energy
is attracted to the areas that have been preheated by the optical energy, which results in
more selective heating of the target. Heating a target structure will require less total
energy with RF and optical energy combined than with optical energy alone. Using less
total energy translates into enhanced safety and less risk of burning the skin.

Our
ELOS technology is embedded in our aesthetic product platforms, which consist of multiple
handpieces and a console that incorporates the RF and optical energy sources,
sophisticated software and a simple, user-friendly interface. The key benefits of our
technology to our customers include:

| |  | Enhanced
Control of Treatment Depth and Selectivity.Epidermal pigmentation limits the
amount of optical energy a user can deliver without causing pain or skin damage. Because
our ELOS technology uses both optical and conducted RF energy, our products achieve
greater skin penetration with lower levels of optical energy and offer more control than
conventional light-based systems. In addition to enhanced safety, the less powerful
light-based energy source increases patient comfort and reduces the need for anesthetics.
Additionally, the use of bipolar RF energy effectively controls the penetration depth and
reduces impact on surrounding tissue. We believe this provides more effective treatments
and an increased array of applications. Our ELOS technology overcomes limitations common
to previous technologies, including more effective treatment of dark skin toned patients,
light and gray hair, and large leg veins as well as the ability to penetrate into
sub-dermal layers.
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Continuous
Temperature Measurement and Automated Parameter Adjustment.We believe that our
products, with our proprietary dual-electrode RF handpiece, are the only non-invasive
aesthetic systems that enable continuous temperature measurement and feedback. The
handpiece measures the temperature and resistance of the dermis every millisecond, unlike
other technologies which do not provide continuous measurements. This measurement
capability enables fine-tuning and automatic adjustments for different areas of the body,
reducing the risk of burns. Our products contain sophisticated software which guides the
adjustment of the treatment parameters to help ensure that the temperature of the skin
does not exceed predetermined limits.
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

22

---

---

| |  | Wide
Range of Applications in a Single System.Our products permit users to perform
multiple procedures with a single device. Our Galaxy system, for example, allows users to
offer a wide variety of procedures, including hair removal, treatment of superficial
benign vascular lesions and superficial benign pigmented lesions, and the treatment of
acne, wrinkles and leg veins. Increasing the types and number of procedures that users
can perform with a single system allows users to spread the fixed cost of the system over
a greater number of procedures. This treatment versatility is an important feature for
users who have not yet established large aesthetic treatment practices or who have space
limitations.
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Easily
Upgradeable Technology Platform.We design our products to allow users to
cost-effectively upgrade their existing products to perform additional applications.
Users can purchase and easily install software plugs and handpieces required to perform
additional applications, providing us with multiple sources of revenue from our installed
base. This upgradeability also provides our customers with the opportunity to own the
latest technological innovations at a fraction of the cost of purchasing a new system.
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Cost
Effectiveness and Reliable Performance.Our products require minimal ongoing
service and disposable expenses, providing our customers with predictable costs of
ownership. Also, because our products utilize less optical energy than competing laser or
light-based systems, our handpieces are able to deliver more pulses during the life of
each handpiece, thereby requiring fewer replacements over the life of a system.
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | User
Friendly Design.Our consoles are lightweight and have a small footprint. This
enables us to ship replacement consoles overnight to customers requiring system
maintenance in North America. The small design of our consoles maximizes the flexibility
of limited space in the users offices. Our handpieces are lightweight and
ergonomically designed, enabling long-term use by our customers with minimal fatigue or
discomfort.
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

# Our Strategy

Our
objective is to position ourselves as the leading provider of non-invasive aesthetic
solutions. The key elements of our strategy are:

| |  | Maintain
Technological Leadership.Our patented ELOS technology enables users to offer
their patients efficient, safe and cost-effective aesthetic procedures. During the past
three years we have used this core technology to launch six product platforms, the
Aurora, Pitanga, Polaris, Galaxy, Comet and Vela. We plan to build upon this technology
platform through the introduction of new product platforms and new aesthetic
applications. We plan to complement our internal development programs with acquisitions
and licensing of complementary technologies and products. We also have a strong
intellectual property portfolio which includes four issued patents and 13 pending patent
applications in the United States. We believe that this strategy will allow us to broaden
our product lines and leverage our existing distribution network.
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Provide
Customers with a Comprehensive Program and Predictable Costs.A critical
component of our aesthetic solutions is providing responsive customer service. As a
result, we have launched our Ultimate Customer Care initiative and offer our
prospective customers an on-site practice development consultation. In North America, we
also provide a customized marketing and business plan to guide users on how to best
incorporate our products into their practice. Following the users purchase of our
system, a skilled clinical trainer visits the customers facility to conduct on-site
clinical training. We also seek to provide predictable costs to users of ownership by
minimizing ongoing disposable and maintenance expenses and providing a parts and services
warranty. Our Ultimate Customer Care program also includes a product
maintenance program that offers next-day delivery of replacement products to eliminate
unnecessary downtime.
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

23

---

---

| |  | Expand
Our Customer Base Beyond Traditional Users.We intend to maintain our primary
sales and marketing focus on the approximately 30,000 dermatologists, plastic surgeons
and other cosmetic surgeons we have estimated are in the United States. However, we will
continue focusing on the approximately 200,000 physicians who have not traditionally
incorporated aesthetic treatments into their practices, including primary care
physicians, obstetricians/gynecologists, ear, nose and throat specialists, and other
specialists in the United States. In addition to the U.S. medical community, we plan to
reach the aesthetician market throughout the world, the newly developing medical spa
market in the United States (where aesthetic procedures are being performed at dedicated
facilities by non-physicians under physician supervision) and, ultimately, consumers. We
may choose to explore distribution partnerships to expand our reach to these emerging
markets.
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Expand
Into New, Non-Invasive Aesthetic Applications.Our ELOS technology enables users
to treat multiple conditions more effectively than with traditional, single energy source
devices. We will continue to offer products for the temporary reduction in the appearance
of cellulite and the treatment of acne, wrinkles and other conditions that have not been
effectively treated by light or laser-based aesthetic procedures. We believe that the
ability of our products to penetrate deeply into the skin and selectively target desired
areas without burning the epidermis will differentiate our technology and enable us to
expand into these new, non-invasive aesthetic applications.
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Focus
on Maintaining Attractive Operating Margins.Systems using our ELOS technology
are less expensive to manufacture than systems using optical energy alone. Using a light
source that requires less energy significantly reduces the systems overall cost
because RF technology components are relatively inexpensive, while the price of
light-based energy sources increases exponentially with power. In addition, we use
outsourced manufacturing to produce our products while maintaining full control over
every step of the production process. Outsourcing allows us to carry low inventory levels
and maintain fixed unit costs without significant capital expenditures. As a result, we
believe our profit margins are higher than those of manufacturers of traditional
aesthetic treatment devices. We plan to continue to focus on products and applications
that will enable us to maintain and enhance attractive operating margins.
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

# Our Products

Our
ELOS-based platform of products addresses a wide range of treatment alternatives.

|                                                                                                                                                                                                                                                                                                                                              |                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |                                                                                                                                                                                                                                                                                                                                                                                                                                        |                                                                                                                                                                                                                                                                                                                                                                    |                                                                                                                                                                                                                                                                                                                                                                           
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------ | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|Product 
Platform
  Aurora 
              
              
              
  Pitanga 
              
   Polaris 
              
              
              
   Galaxy 
              
              
              
              
              
              
  Comet 
              
              
              
              
   Vela | Applications(1)
 Hair Removal 
 Rejuvenating the 
  skin's appearance(2) 
 Acne 
 Hair Removal 
                        
 Wrinkles 
                        
                        
                        
 Hair Removal 
 Rejuvenating the 
  skin's appearance(2) 
 Acne 
 Wrinkles
 Leg Veins
 Other Vascular Lesions
 Fast Hair Removal 
                        
                        
                        
                        
 Appearance of 
 Cellulite | Intended Users
Physicians 
                       
                       
                       
Aestheticians 
Acne 
Physicians 
Leg Veins 
Other Vascular Lesions 
                       
Physicians 
                       
                       
                       
Physicians 
                       
                       
                       
                       
Physicians 
Aestheticians 
Medical Spas | Energy Sources
Light + RF 
                  
                  
                  
Light + RF 
Medical Spas 
Laser + RF 
                  
                  
                  
Light + RF / 
Laser + RF 
                  
                  
Laser + RF 
Aestheticians 
                  
                  
                  
Light + RF+ 
Vacuum Shaping | Market
Introduction Date
U.S.: Third Quarter
2002
Rest of World:
Fourth Quarter 2001
Rest of World:
Fourth Quarter 2003
U.S.: Fourth Quarter
2003
Rest of World:
Second Quarter 2003
U.S.: Second Quarter
2004
Rest of World:
Second Quarter 2004
U.S.: Fourth
Quarter 2004
Rest of World:
Fourth
Quarter 2004
U.S.: Second
Quarter 2005
Rest of World:
First Quarter 2005

|(1) | Regulatory
clearance has been received in the United States and Europe for each
                    indicated application for all products, and in China for the Aurora
and Polaris                     products. In each market in which our products are sold,
other than the United                     States and most European countries, the
distributors are responsible for                     obtaining other regulatory approval.
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(2) | Rejuvenating
the skins appearance through the treatment of superficial
                    benign vascular and pigmented lesions.
|--- | ----------------------------------------------------------------------------------------------------------------------------------

24

---

---

# Components of Our System

Each
of our products consists of the following components:

| |  | a
compact, lightweight console;
| | - | -------------------------------

| |  | one
or more handpieces; and
| | - | ---------------------------

| |  | our
proprietary software.
| | - | -------------------------

Control
Console.Our lightweight control console contains all electronic components,
including the RF and optical energy modules, a 110/220 volt power supply and a water
cooling unit that cools the optical energy source. The control console also houses the
operator interface which consists of a digital display and a user-friendly set-up
mechanism.

Handpieces.Our
handpieces deliver RF and optical energy to the treatment area and include the following
components:

| |  | An
optical energy source, either a diode laser or a flashlamp, as well as a mechanism to
deliver the optical energy to the skin.
| | - | --------------------------------------------------------------------------------------------------------------------------------

| |  | A
bi-polar RF energy delivery mechanism consisting of two electrodes that enable the
delivery of RF energy to the skin. The use of these RF electrodes allows for the
continuous measurement of the temperature and resistance of the dermis, allowing
real-time monitoring of the level of energy delivered in each individual pulse and
minimizing patient discomfort as well as potential damage to the skin.
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | An
internal cooling mechanism consisting of a thermo electric component that provides an
integrated cooling of the treatment area, thereby protecting the outer layer of the skin.
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

The
weight of the handpiece is between one and two pounds, generally light enough to be held
in one hand. The lightweight nature and the ergonomic design of the handpiece help prevent
user fatigue, a problem typical of many competing systems.

25

---

---

Proprietary
Software.Our software permits the user to define treatment parameters to be
communicated throughout the system and controls the delivery of RF and optical energy
through the handpiece to the patient. In addition, our software controls and manages
system performance, system self-calibration, system setup and detection of any malfunction
of the system. Our users upgrade their products through the purchase of additional
treatment applicators and corresponding software plugs.

# Applications and
Procedures

Our
products provide our customers with a broad range of applications among both traditional
procedures and emerging applications.

Hair
Removal.In a typical hair removal treatment, the target area is first cleaned
and shaved. The user, who is not generally a physician, then applies either a water based
spray or gel to help ensure optimal contact and conductivity between the handpiece and the
skin. Topical anesthetics are not normally necessary in hair removal treatments. The user
next applies the handpiece to the target area and delivers an RF and optical pulse to the
selected area. Our ELOS technology uses the RF and optical energy to destroy the hair
follicles located in the dermis and sub-dermal layers. This procedure is continued over
the target area and can last from a few minutes to 45 minutes depending on the size of the
treatment area and the applicator in use. For example, our continuous glide Comet system
for high-volume hair removal centers can complete an area the size of a persons back
in 20 minutes. In general, hair removal requires four to six treatments spaced three weeks
apart for permanent reduction. Our RF technology may be more effective for the removal of
all hair colors across all skin types. We received 510(k) FDA clearance for our Aurora
products for hair removal treatments in July 2002. Users perform hair removal procedures
with our Aurora, Pitanga, Polaris, Comet and Galaxy products. We received 510(k) FDA
clearance for our Aurora and Comet products for permanent hair reduction in October 2004.

Rejuvenating
the Skins Appearance.Generally performed by a physician, rejuvenating the
skins appearance through the treatment of superficial benign vascular and pigmented
lesions does not require the application of a topical anesthetic. As a result of the
externally applied energy, epidermal and dermal pigmented and vascular lesions are
destroyed. The skins appearance is rejuvenated through the improvement of
abnormalities in skin texture and the elimination of sun damage, as well as other
pigmented abnormalities and superficial vascular lesions. Patients generally receive
between four to five treatments of approximately 30 minutes each. Treatments are spaced
two to three weeks apart. We received 510(k) FDA clearance for superficial vascular and
pigmented lesion treatments in October 2002. Users rejuvenate the skins appearance
with the Aurora, Pitanga and Galaxy products.

Leg
Veins.The treatment of leg veins, which is generally performed by a physician,
sometimes requires topical anesthetic. Bi-polar RF energy, when combined with optical
pulse energy, selectively heats the target in the dermis and damages the vein. Deeper
veins are generally larger in diameter. The enhanced depth of penetration of our
technology enables the treatment of visible veins up to 5 millimeters in diameter,
compared to existing optical technologies which typically treat veins of up to 2
millimeters in diameter. Depending on the size and number of leg veins, procedures last
between 20 and 30 minutes per treatment. Patients generally receive between two and four
treatments spaced over two to three weeks. We received 510(k) FDA clearance for treatment
of vascular lesions with the Polaris products in April 2003 (Polaris LV). Users can treat
vascular lesions with the Polaris and Galaxy products.

Our
products also treat aesthetic conditions not effectively treated by traditional laser or
light-based technologies. These conditions include:

Wrinkles.The
treatment of wrinkles generally is performed by a physician. Patients seeking treatment
for wrinkles sometimes require topical anesthetic. The combination of bi-polar RF and
optical energies enables higher selectivity to target the epidermis, deep dermis and
connective tissues and reduces the appearance of wrinkles in the face, neck and chest.
Treatment for wrinkles requires three to five sessions of approximately 30 minutes each,
spaced two to three weeks apart. We received 510(k) FDA clearance for wrinkle treatments
with the Polaris products in December 2003. Users can treat wrinkles through our Polaris
and Galaxy products.

26

---

---

Acne.The
treatment of acne generally is performed by a physician or a nurse. Our unique solution
delivers a combined pulse of blue and infrared light, and RF energy. This dual energy
selectively targets overactive sebaceous glands and acne bacteria, which are the primary
causes of acne. Infrared light and RF energy heat the sebaceous gland and reduce their
activity and the delivery of blue light photochemically damages acne bacteria, resulting
in a reduction in acne. Patients generally receive between six and ten treatments of
approximately 15 minutes each over a course of four to six weeks, and sometimes undergo a
periodic maintenance program. We received 510(k) FDA clearance for acne treatments with
the Aurora and the Pitanga products in January 2004. Users can treat acne with our Aurora,
Pitanga and Galaxy products.

Cellulite.The
treatment for the temporary reduction in the appearance of cellulite generally will be
performed by a non-physician trained professional under the medical direction of a
physician. The treatment for temporary reduction in the appearance of cellulite combines
the delivery of:

| |  | RF
energy  to gently heat the superficial layers below the skin;
| | - | -----------------------------------------------------------------

| |  | infrared
optical energy  to heat the outer layer of the skin;
| | - | --------------------------------------------------------------

| |  | dynamic
(pulsed) vacuum suction to massage the skin for safe and effective energy delivery; and
| | - | -----------------------------------------------------------------------------------------------

| |  | tissue
mobilization by rotating metal electrodes to help ensure optimal energy delivery.
| | - | ----------------------------------------------------------------------------------------

We
expect that treatment for temporary reduction in the appearance of cellulite will require
between six and ten treatments of approximately 30 to 45 minutes each, depending on the
treatment area.

In
June 2005, the FDA granted 510(k) clearance to our Vela platform for the temporary
reduction in the appearance of cellulite. The Vela also received clearance for the relief
of minor muscle aches, pain and spasm as well as the temporary improvement of local blood
circulation. In addition to the 510(k) clearance, the FDA created a new product code for
the Vela due to its technical innovation. The Vela was cleared as a medical device and may
therefore be only sold in the United States to physicians for use by trained professionals
under a physicians medical direction.

# Product Upgrades

Our
product design enables our customers to add additional applications and new technologies
without incurring the cost of purchasing a new system. This provides our customers with a
cost effective method of adding new applications to their existing products and provides
us with a source of recurring revenue. When we introduce a new product application, we
notify our customers of the upgrade opportunity. Our products allow our customers to
quickly install the upgrade through the removal and replacement of a small software plug
and the installation of a new handpiece without the need for an on-site service
technician. The use of a software plug provides a significant advantage over competing
products, which typically require a field service representative to install the upgrade at
the customer site and results in downtime for the customer.

# Sales and Marketing

Our
strategy to achieve market penetration is to market initially to dermatologists, plastic
surgeons and other cosmetic physicians in North America and medical and non-medical
practitioners outside North America. Secondarily, in North America, we will continue to
target the larger market of primary care physicians, obstetricians/gynecologists, ear,
nose and throat specialists, and other practitioners who have started incorporating
aesthetic procedures into their practices, along with the developing medical spa market.
We also will focus on additional aestheticians throughout the world. We believe our
products represent a significant opportunity for practitioners to deliver improved patient
treatment results and significantly increase their ability to generate additional revenue.

27

---

---

We
sell our products in 41 countries around the world through a combination of 35
distributors as well as salespeople employed by our distributors throughout the world. In
the United States and Canada, we sell, market and distribute our products through a direct
sales force of approximately 40 individuals. Our U.S. and Canadian sales efforts are
headquartered in Toronto and we manage four separate territories through New York,
Chicago, Los Angeles and Toronto. We rely on a limited, direct sales force to market and
sell our products in Germany and Austria. In addition, we have agreements with
distributors to market and sell our products throughout the rest of Europe, the Middle
East, eleven countries in Asia-Pacific and four countries in Latin America.

Recently,
we have entered into strategic partnership with Miracle Laser, a powerful distributor of
high-end light technologies for aesthetic medicine in China.

Our
customer support strategy is to provide customers with a comprehensive program of services
and a predictable cost of ownership. To achieve this, we launched our Ultimate
Customer Care initiative. The first component of our initiative is to provide
responsive customer service. Following the sale of a system, we offer customers an on-site
practice development consultation to analyze practitioner office workflow and marketing
efforts. In North America, we typically follow the consultation with the delivery of a
customized marketing and business plan to guide users on how to effectively integrate our
products into their practice. We also provide a trainer to conduct on-site clinical
training for our customers and their staff. We also offer Continuing Medical Education
accredited offsite training courses such as our advanced fotofacial workshop
for physicians and office staff.

The
second component of our initiative is to provide our customers with a predictable cost of
ownership, including minimal ongoing maintenance and disposable costs. In North America,
we offer a three-year, parts and services warranty that covers disposable applicator parts
and regular system maintenance. The small size and weight of our system enables us to
complement our warranty programs with a product maintenance program that offers next-day
delivery of replacement products in North America in the case of any problems with the
machine. This unique overnight delivery program eliminates unnecessary downtime at the
users office and results in minimal loss of revenue for our customers.

# Manufacturing

Our
strategy is to use outsourced manufacturing to produce our devices while maintaining full
control over every step of the production process. Outsourcing allows us to carry low
inventory levels and maintain fixed unit costs without incurring significant capital
expenditures. We use three separate manufacturers to produce our products. We believe
their manufacturing processes are in compliance with all pertinent U.S. and international
quality and safety standards, such as ISO 9001:2000 and EN46001 and the FDAs quality
system regulation. We conduct in-house prototype development and present detailed
manufacturing documents to our subcontractors, who then purchase most of the necessary
components and manufacture the product. These manufacturing subcontractors provide us
fully assembled, or turn-key, services. We control and monitor the quality of
our products by installing one of our quality control employees full-time at each of our
subcontractors facilities.

The
contracts we have with these manufacturers do not have minimum purchase requirements and
allow us to purchase end products from the manufacturers on a purchase order basis. The
contracts have one-year terms that automatically renew for successive one-year terms
unless either we or the manufacturer give three months written notice prior to the
expiration of the term. The time required to qualify new subcontract manufacturers for our
products could cause delays in our ability to provide products to our customers. To date,
we have not experienced any significant manufacturing delays.

We
procure the diode laser component of our products on behalf of our third-party
manufacturers from a limited number of suppliers. We have flexibility to adjust the number
of diode lasers we procure as well as the delivery schedules. The forecasts we use are
based on historical demands and future plans. Lead times may vary significantly depending
on the size of the order, time required to fabricate and test the components, specific
supplier requirements and current market demand for the components. We reduce the
potential for delays of supply by maintaining relationships with multiple suppliers of
diode lasers. The time required to qualify new suppliers for the diode laser components,
or to redesign them, could cause delays in our manufacturing. To date, we have not
experienced significant delays in obtaining our diode laser components.

28

---

---

# Research and Development

Our
research and development activities are conducted internally by a research and development
staff consisting of 23 employees. Our research and development efforts are focused on the
development of new products, as well as the extension of our existing products to new
applications in the non-invasive aesthetic medical market. We intend to develop products
and product line extensions that leverage our existing ELOS platform. We have a number of
new projects and products under development, mainly focusing on additional non-invasive
aesthetic treatments.

To
date, our research and development effort has been focused on the development of products
that leverage our existing ELOS platform rather than developing new technologies. Our
gross research and development expenditures were $1.2 million in 2002, $1.9 million in
2003 and $3.1 million in 2004. We expect to continue to increase our expenditures on
research and development.

# Intellectual Property

We
rely on a combination of patent, copyright, trademark and trade secret laws and
confidentiality and invention assignment agreements to protect our intellectual property
rights. We own four issued patents, one of which was purchased in December 2004, and we
have 13 patent applications pending in the United States. One of our patents relates to
treating the skin by deforming it, applying RF energy to it, and massaging it. This patent
was issued in December 2003 and it will remain in force until March 2022, subject to
payment of maintenance fees. Our second patent, which relates to skin treatments using a
combination of RF and optical energy, covers our ELOS technology. This patent will remain
in force until October 2020, subject to payment of maintenance fees. Our third patent,
acquired in December 2004, covers, among other things, methods for the controlled
contraction of collagen using RF energy. It will remain in force until May 2014, subject
to payment of maintenance fees. Our fourth patent, which was issued in May 2005, is
directed to systems and methods for treating the skin using RF energy. This patent will
remain in force until November 2021, subject to payment of maintenance fees. All of our
patent applications have been filed, and we expect to file our future patent applications,
in the United States, and we also have filed, or intend to file, foreign counterpart
applications in Europe, certain countries in South America and Japan. We intend to file
for additional patents to strengthen our intellectual property rights. Our trademarks
include Syneron, the Syneron logo, el_s,Active Dermal Monitoring, Aurora, Polaris,
Pitanga, VelaSmooth, Syner-Cool, Galaxy, and Comet. All other trademarks, trade names and
service marks appearing in this annual report are the property of their respective owners.
We have a policy of seeking to register our trademarks in the United States, Canada and
certain other countries.

In
March 2004, we entered into a settlement and license agreement with Lumenis Ltd., one of
our competitors, pursuant to which, among other things, we have a non-exclusive license to
utilize Lumenis patents relating to the use of incoherent light or gel in aesthetic
and medical applications. Our license fee under this agreement is limited to $4.2 million,
and is paid based on our net sales. As of March 31, 2005 we have paid $3.24 million as
license fees under the agreement with Lumenis. The license is irrevocable, except that if
we fail to make the license fee payments, Lumenis could terminate the license and
settlement agreement and sue us on the patents licensed in the license agreement. We
believe we would have meritorious defenses to any claims that Lumenis might bring on the
licensed patents and would defend ourselves vigorously. The outcome of any such future
suit Lumenis might file against us is not determinable. Depending on the nature of any
claim Lumenis might assert, if they were to obtain an injunction, they might be able to
prevent us from manufacturing, marketing and selling some or all of our products.

29

---

---

In
June 2005, we reached an agreement with Thermage which settled patent-related claims of
the parties against each other. Under this agreement each party grants the other a
non-exclusive paid-up license under the patents in suit and related patents. Legal fees
and our settlement costs in connection with our settlement with Thermage amounted to $2.2
million. The license granted to Thermage excludes the right to utilize our ELOS technology
and the license granted to us excludes the right to utilize Thermages monopolar RF
and capacitive electrical coupling.

All
professional employees and technical consultants are required to execute confidentiality
agreements in connection with their employment and consulting relationships with us. We
also require them to agree to disclose and assign to us all inventions conceived in
connection with their services to us. However, there can be no assurance that these
confidentiality agreements will be enforceable or that they will provide us with adequate
protection.

# Competition

Our
industry is subject to intense competition. We compete against products offered by public
companies, including Candela Corporation, Laserscope, Lumenis Ltd., Cutera, Inc. and
Palomar Medical Technologies, Inc., as well as by private companies such as Cynosure,
Inc., Sciton, Inc., Radiancy Inc., Thermage, Inc. and by several other smaller specialized
companies. Our products compete against conventional non-light-based treatments, including
Botox and collagen injections, sclerotherapy, electrolysis, liposuction, chemical peels
and microdermabrasion. Our products also compete against laser and other light-based
products.

Competition
among providers of laser and other light-based products for the aesthetic medical market
is characterized by extensive research efforts and rapid technological progress. While we
attempt to protect our products through patents and other intellectual property rights,
there are few barriers to entry that would prevent new entrants or existing competitors
from developing products that would compete directly with ours. There are many companies,
both public and private, that are developing innovative devices that use laser,
light-based and alternative technologies. Many of these competitors have significantly
greater financial and human resources than we do and have established reputations, as well
as worldwide distribution channels that are more effective than ours. Additional
competitors may enter the market and we are likely to compete with new companies in the
future. To compete effectively, we have to demonstrate that our products are attractive
alternatives to other devices and treatments by differentiating our products on the basis
of performance, brand name, reputation and price. We have encountered and expect to
continue to encounter potential customers who, due to existing relationships with our
competitors, are committed to, or prefer the products offered by, these competitors. We
expect that competitive pressures may over time result in price reductions and reduced
margins for our products.

# Revenues by Geographic
Market

|Region         | Year ended December 31
|-------------- | ----------------------
|
|
|
|
|North America  |                       
|Asia-Pacific   |                       
|Western Europe |                       
|Israel         |                       
|Other          |                       
|Total          |                       

30

---

---

# Government Regulation

Our
products are medical devices subject to extensive and rigorous regulation by the U.S. Food
and Drug Administration, as well as other regulatory bodies, to help ensure that medical
products are safe and effective for their intended uses. FDA regulations govern the
following activities that we perform and will continue to perform:

| |  | product
design and development;
| | - | -------------------------------

| |  | product
testing;
| | - | ----------------

| |  | product
manufacturing;
| | - | ----------------------

| |  | product
safety;
| | - | ---------------

| |  | product
labeling;
| | - | -----------------

| |  | product
storage;
| | - | ----------------

| |  | record
keeping;
| | - | ---------------

| |  | premarket
clearance or approval;
| | - | --------------------------------

| |  | advertising
and promotion;
| | - | --------------------------

| |  | production;
and
| | - | ---------------

| |  | product
sales and distribution.
| | - | -------------------------------

Each
of our products currently marketed in the United States has received 510(k) clearance for
the uses for which they are being marketed.

FDAs
Premarket Clearance and Approval Requirements.Unless an exemption applies, each
medical device we wish to commercially distribute in the United States will require either
prior 510(k) clearance or premarket approval from the FDA. The FDA classifies medical
devices into one of three classes. Devices deemed to pose lower risks are placed in either
class I or II, which requires the manufacturer to submit to the FDA a premarket
notification requesting permission to commercially distribute the device. This process is
generally known as 510(k) clearance. Some low risk devices are exempt from this
requirement. Devices deemed by the FDA to pose the greatest risk, such as life-sustaining,
life-supporting or implantable devices, or devices deemed not substantially equivalent to
a previously cleared 510(k) device, are placed in class III, requiring premarket approval.
All of our current products that are being marketed in the United States are class II
devices.

510(k)
          Clearance Pathway.When a 510(k) clearance is required, we must submit
          a premarket notification demonstrating that our proposed device is substantially
          equivalent to a previously cleared 510(k) device or a device that was in
          commercial distribution before May 28, 1976 for which the FDA has not yet called
          for the submission of premarket approval applications. By regulation, the FDA is
          required to clear or deny a 510(k) premarket notification within 90 days of
          submission of the application. As a practical matter, clearance often takes
          significantly longer. The FDA may require further information, including
          clinical data, to make a determination regarding substantial equivalence.

Laser
devices used for aesthetic procedures, such as hair removal, have generally qualified for
clearance under 510(k) procedures. We received FDA clearances to market our Aurora
platform of products for hair removal in July 2002 and for superficial vascular and
pigmented lesions in October 2002. We received FDA clearance for the treatment of acne
with the Aurora and the Pitanga products in February 2004. We received FDA clearances to
market our Polaris product platform for leg vein treatment as well as other types of
vascular lesions in April 2003. We received FDA clearance for wrinkle treatment with the
Polaris products in December 2003. These 510(k) clearances also provide the regulatory
basis for the marketing of our Galaxy product platform for all of the above mentioned
applications and for the Comet products for hair removal. We received FDA clearance for
our Aurora and Comet products for permanent hair reduction in October 2004.

31

---

---

Premarket
Approval Pathway.A premarket approval application must be submitted to the FDA
if the device cannot be cleared through the 510(k) process. A premarket approval
application must be supported by extensive data, including, but not limited to, technical,
preclinical, clinical trials, manufacturing and labeling to demonstrate to the FDAs
satisfaction the safety and effectiveness of the device.

One
device that we have developed, the Vela, required 510(k) clearance or premarket approval.
In June 2005, the FDA granted 510(k) clearance to our Vela platform for the temporary
reduction in the appearance of cellulite and for the relief of minor muscle aches, pain
and spasms, as well as the temporary improvement of local blood circulation.

Pervasive
and Continuing Regulation.After a device is placed on the market, numerous
regulatory requirements apply. These include:

| |  | quality
system regulations, or QSR, which require manufacturers, including third-party
manufacturers, to follow stringent design, testing, control, documentation and other
quality assurance procedures during all aspects of the manufacturing process;
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | labeling
regulations and FDA prohibitions against the promotion of products for uncleared,
unapproved or off-label uses;
| | - | --------------------------------------------------------------------------------------------------------------------------

| |  | medical
device reporting regulations, which require that manufacturers report to the FDA if their
device may have caused or contributed to a death or serious injury or malfunctioned in a
way that would likely cause or contribute to a death or serious injury if the malfunction
were to recur; and
| | - | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | post-market
surveillance regulations, which apply when necessary to protect the public health or to
provide additional safety and effectiveness data for the device.
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------

The
FDA has broad post-market and regulatory enforcement powers. We are subject to unannounced
inspections by the FDA to determine our compliance with the QSR and other regulations, and
these inspections may include the manufacturing facilities of our manufacturing
subcontractors.

We
also are regulated under the Radiation Control for Health and Safety Act, which requires
laser products to comply with performance standards, including design and operation
requirements, and manufacturers to certify in product labeling and in reports to the FDA
that their products comply with all such standards. The law also requires laser
manufacturers to file new product and annual reports, maintain manufacturing, testing and
sales records, and report product defects. Various warning labels must be affixed and
certain protective devices installed, depending on the class of the product.

Failure
to comply with applicable regulatory requirements can result in enforcement action by the
FDA, which may include any of the following sanctions:

| |  | fines,
injunctions, consent decrees and civil penalties;
| | - | --------------------------------------------------------

| |  | recall
or seizure of our products;
| | - | ----------------------------------

| |  | issuing
an import alert to block entry of products the FDA has reason to believe are violative of
applicable regulatory requirements;
| | - | -------------------------------------------------------------------------------------------------------------------------------------

| |  | operating
restrictions, partial suspension or total shutdown of production;
| | - | ---------------------------------------------------------------------------

| |  | refusing
our requests for 510(k) clearance or premarket approval of new products or new intended
uses;
| | - | ------------------------------------------------------------------------------------------------------

32

---

---

| |  | withdrawing
510(k) clearance or premarket approvals that are already granted; and
| | - | ---------------------------------------------------------------------------------

| |  | criminal
prosecution.
| | - | ---------------------

The
FDA also has the authority to require us to repair, replace or refund the cost of any
medical device that we have manufactured or distributed. If any of these events were to
occur, they could have a material adverse effect on our business.

We
also are subject to a wide range of federal, state and local laws and regulations,
including those related to the environment, health and safety, land use and quality
assurance. We believe that we are in compliance with these laws and regulations as
currently in effect, and our compliance with such laws will not have a material adverse
effect on our capital expenditures, earnings and competitive and financial position.

International
Regulations.International sales of medical devices are subject to foreign
governmental regulations, which vary substantially from country to country. The time
required to obtain clearance or approval by a foreign country may be longer or shorter
than that required for FDA clearance or approval, and the requirements may be different.

In
May 2005, the Chinese State Food & Drug Administration granted regulatory approval to
sell our Aurora and Polaris products in China.

The
primary regulatory environment in Europe is that of the European Union, which consists of
25 countries encompassing most of the major countries in Europe. Three member states of
the European Free Trade Association have voluntarily adopted laws and regulations that
mirror those of the European Union with respect to medical devices. Other countries, such
as Switzerland, have entered into Mutual Recognition Agreements and allow the marketing of
medical devices that meet European Union requirements. The European Union has adopted
numerous directives and European Standardization Committees have promulgated voluntary
standards regulating the design, manufacture, clinical trials, labeling and adverse event
reporting for medical devices. Devices that comply with the requirements of a relevant
directive will be entitled to bear CE conformity marking, indicating that the device
conforms with the essential requirements of the applicable directives and, accordingly,
can be commercially distributed throughout the member states of the European Union, the
member states of the European Free Trade Association and countries which have entered into
a Mutual Recognition Agreement. The method of assessing conformity varies depending on the
type and class of the product, but normally involves a combination of self-assessment by
the manufacturer and a third-party assessment by a Notified Body, an independent and
neutral institution appointed by a country to conduct the conformity assessment. This
third-party assessment may consist of an audit of the manufacturers quality system
and specific testing of the manufacturers device. An assessment by a Notified Body
in one member state of the European Union, the European Free Trade Association or one
country which has entered into a Mutual Recognition Agreement is required in order for a
manufacturer to commercially distribute the product throughout these countries. ISO 9001
and ISO 13845 certification are voluntary harmonized standards. Compliance establishes the
presumption of conformity with the essential requirements for a CE Marking. In the third
quarter of 2001, our facility was awarded the ISO 9001 and EN 46001 certification. In the
first quarter of 2003, we received our ISO 9001: 2000 updated certification as well as EN
46001. In the second quarter 2003 we received certification for ISO 13485. All those
certifications are valid until 2006.

Federal
Communications Commission and other governmental agencies governing the use of radio
frequency energy.Our products generate and use radio frequency energy, and
therefore may be subject to technical, equipment authorization and other regulatory
requirements in the countries and regions where they are marketed or distributed. In the
United States, our products are subject to the Federal Communications Commissions
equipment verification procedures, under which the manufacturer is required to determine,
or verify, that the equipment complies with the applicable technical standards and to keep
a record of test measurements demonstrating compliance before the equipment can be
marketed or sold in the United States. Any modifications to our products may require
re-verification before we are permitted to market and distribute the modified devices.

33

---

---

We
seek to obtain regulatory approvals in countries requiring advance clearance of our
products before they are marketed or distributed in those countries. Our failure to comply
with the technical, equipment authorization, or other regulatory requirements of a
specific country or region could impair our ability to commercially market and distribute
our products in that country or region.

|C. | ORGANIZATIONAL
STRUCTURE
|-- | ------------------------

We
have three active subsidiaries: Syneron GmbH, a wholly-owned subsidiary, was established
in Germany in August 2001, to market and sell the Companys products in Europe;
Syneron Inc. and Syneron Canada Corp., also wholly-owned subsidiaries, were established
during 2002 in Delaware and Toronto, Canada, respectively, to market and sell the
Companys products in North America.

|D. | PROPERTY,
PLANTS AND EQUIPMENT
|-- | ------------------------------

We
lease our main office and research and development facilities, located in the Industrial
Zone in Yokneam Illit, Israel pursuant to a lease that expires in December 2006. We occupy
approximately 7,000 square feet in the Israeli facility. Our Canadian subsidiary leases a
5,441 square foot facility in Richmond Hill, Ontario, Canada pursuant to a lease that
expires in October 2006. Our U.S. subsidiary leases a 2,200 square foot facility in
Schaumburg, Illinois pursuant to a lease that expires in May 2010. Our U.S. subsidiary
also leases a 5,100 square foot facility in Irvine, California pursuant to a lease that
expires in June 2007. Our German subsidiary leases a 1,500 square foot facility in Germany
pursuant to a lease renewable on a yearly basis. We believe that our properties are
adequate to meet our current needs.

|ITEM 5. |  | OPERATING
AND FINANCIAL REVIEW AND PROSPECTS
|------- |  | --------------------------------------------

The
following discussion of our financial condition and results of operations should be read
in conjunction with Item 3.A Selected Financial Data and our consolidated
financial statements and the related notes to those statements included elsewhere in this
annual report. In addition to historical consolidated financial information, the following
discussion and analysis contains forward-looking statements that involve risks,
uncertainties and assumptions. Our actual results and timing of selected events may differ
materially from those anticipated in theses forward-looking statements as a result of many
factors, including those discussed under Item 3.D Risk Factors and elsewhere
in this annual report.

|A. | OPERATING
RESULTS
|-- | -----------------

# Overview

We
design, develop and market innovative aesthetic medical products based on our proprietary
Electro-Optical Synergy, or ELOS, technology, which uses the synergy between electrical
energy and optical energy to provide effective, safe and affordable aesthetic medical
treatments. Our products, which we sell primarily to physicians and other practitioners,
target a wide array of non-invasive aesthetic medical procedures, including hair removal,
wrinkle reduction, rejuvenation of the skins appearance through the treatment of
superficial benign vascular and pigmented lesions, and treatment for the temporary
reduction in the appearance of cellulite. We believe ELOS provides performance advantages
over existing technologies that rely solely on optical energy. We believe using optical
energy alone limits the safety and efficacy of many aesthetic medical procedures due to
limited skin penetration and unwanted epidermal absorption. Our proprietary ELOS
technology, which combines optical and electrical energy, enhances the users ability
to accurately target the tissue to be treated and enables real-time measurement of skin
temperature, resulting in increased patient safety and comfort and improved treatment
results.

34

---

---

We
were incorporated in July 2000. During 2000 and 2001, our primary activity was the
development and approval of our first product platform, the Aurora, which utilizes our
ELOS technology. We received our CE Mark approval in Europe in November 2001 and launched
sales of the Aurora product platform in December 2001. We received 510(k) clearance from
the FDA for hair removal for the Aurora product platform in July 2002. In October 2002, we
received 510(k) clearance from the FDA to market the Aurora product platform for the
treatment of superficial benign vascular and pigmented lesions. In August 2002, we
introduced the Aurora product platform commercially in the United States.

We
launched the Polaris product platform in May 2003 after receiving our CE Mark approval in
Europe for the product in December 2002. In April 2003, we received 510(k) clearance from
the FDA to market the Polaris product platform for leg vein treatment as well as other
types of vascular lesions. In December 2003, we introduced the Polaris product platform
commercially in the United States.

We
received our CE Mark approval in Europe for the Pitanga product platform in May 2003.
During the fourth quarter of 2003, we launched the Pitanga product platform for the
treatment of acne and hair removal in Europe and Canada.

We
launched the Galaxy product platform in May 2004. We received our CE Mark approval in
Europe for the Galaxy product platform in May 2004. The 510(k) clearances from the FDA
also provide the regulatory basis for the marketing of the Galaxy product for all
applications. We introduced the Galaxy product platform commercially in the United States
in May 2004.

During
2004, we significantly expanded our direct sales and marketing organization in North
America to approximately 50 employees, established a distribution network in eleven
countries in the Asia-Pacific region and increased our sales and marketing efforts in
Europe. We increased our sales and marketing effort in 2004 in connection with new product
introductions and other marketing activities planned for 2004. In 2004, we introduced
three new product platforms: the Galaxy, which combines the applications of the Aurora and
the Polaris product platforms, the Vela, for the temporary reduction in the appearance of
cellulite and the Comet, for hair removal. Our Galaxy and Comet platforms are covered by
our present FDA clearances. In June 2005, the FDA granted 510(k) clearance to our Vela
platform for the temporary reduction in the appearance of cellulite and for the relief of
minor muscle aches, pain and spasms, as well as the temporary improvement of local blood
circulation.

# Revenues

Generally,
we recognize revenue upon delivery of our products to our customers and, where applicable,
when the required installation is complete. We generate our revenues primarily from the
sales of our ELOS-based medical aesthetic equipment. For the year ended December 31,
2004 our revenues totaled $57.9 million. From inception through December 31, 2004, we sold
over 2,300 products worldwide. In 2004, we derived approximately 7.0% of our revenue from
the recognition of product warranty and service revenue. We expect product warranty
revenue to increase over time as our installed base continues to grow.

We
sell our products directly in the United States, Canada, Germany and Austria and use
distributors to sell our products in countries where we do not have a direct presence, or
to complement our direct sales force. For the year ended December 31, 2004, we derived
43.8% of our revenue from sales of our products outside North America through a
combination of direct and distributor sales. In the future, we expect to generate a
greater percentage of our revenue from sales in Europe and the Asia-Pacific region. As of
December 31, 2004, we had approximately 40 salespeople in North America, and distributors
in more than 35 countries. We expect our sales to increase over time as we continue to
introduce products with new applications.

The
following table provides information regarding the breakdown of our sales by geographical
region for the years ended December 31, 2003 and 2004:

35

---

---

|              | Percent of Sales
|------------- | ----------------
|
|
|
|
|North America |                 
|Asia-Pacific  |                 
|Europe        |                 
|Other         |                 
|Total         |                 
|              |                 

# Cost of Revenues

Our
cost of revenues consists of the cost of manufacture and assembly of our ELOS-based
medical products by third-party manufacturers. These costs primarily include materials,
components and labor used by our third-party manufacturers. We have been able to negotiate
competitive terms with the subcontractors that manufacture our products. Also, because our
product technology, design and engineering does not require highly sophisticated, time
intensive labor for assembly and testing and our products use the off-the-shelf discrete
components, we are able to experience low manufacturing costs and high gross margins.

Cost
of revenues also includes service and warranty expenses, as well as salaries and
personnel-related expenses for our operations management team which includes subcontractor
management, purchasing and quality control. Although economies of scale resulted in a
decrease in the percentage of the cost of revenues from 2003 to 2004, we expect that our
cost of revenues may increase moderately as a percentage of revenues in the future due to
anticipated price pressure and due to a possible increase in sales of products that are
more expensive to manufacture.

# Research and Development
Expenses

Our
research and development expenses consist of salaries and other personnel-related expenses
of employees primarily engaged in research and development activities, external
engineering fees and materials used and other overhead expenses incurred in connection
with the design and development of our products. We expense all our research and
development costs as incurred. We expect our research and development expenditures to
increase significantly in absolute dollars and moderately as a percentage of revenues as
we continue to devote resources to research and develop new products and technologies.

# Selling and Marketing
Expenses

Our
selling and marketing expenses consist primarily of salaries, commissions and other
personnel-related expenses for those engaged in the sales, marketing and support of our
products and trade show, promotional and public relations expenses, as well as management
and administration expenses in support of sales and marketing in our subsidiaries. We
expect our selling and marketing expenses to increase significantly in absolute dollars,
though we do not expect them to increase as a percentage of revenues, as a result of
expansion of our marketing efforts.

# General and
Administrative Expenses

Our
general and administrative expenses consist primarily of salaries and other
personnel-related expenses for executive, accounting and administrative personnel,
professional fees and other general corporate expenses. We expect our general and
administrative expenses to increase in absolute dollars and as a percentage of revenues as
a result of our becoming a public company.

36

---

---

# Financial Income

Interest
income and other income consists primarily of interest earned on cash, cash equivalents,
deposits and marketable securities, as well as the remeasurement of our subsidiaries
financial statements in Germany into U.S. dollars.

# Taxes on Income

In
2002, our facilities in Israel were granted the status of Approved Enterprise,
entitling us to a ten-year exemption from Israeli corporate tax. The Approved
Enterprise status only allows corporate tax exemptions on profits generated from
operations, requiring regular Israeli corporate tax on income generated from other
sources. We will seek to maintain the Approved Enterprise status by meeting
the necessary conditions with respect to our future capital investment programs thus
extending our Approved Enterprise benefits beyond the first ten years. For
additional description of Israeli Tax please see Item 10.E Taxation  Israeli
Taxation.

# Critical Accounting
Policies And Estimates

Our
discussion and analysis of our financial condition and results of our operations is based
upon our audited consolidated financial statements, which have been prepared in accordance
with accounting principles generally accepted in the United States. The preparation of
these financial statements requires us to make estimates and judgments that affect the
reported amount of assets, liabilities, sales and expenses and related disclosure of
contingent assets and liabilities. On a periodic basis, we evaluate our estimates,
including those related to revenue recognition, warranty and service costs, income taxes
and stock-based compensation. We base our estimates on historical experience,
authoritative pronouncements and various other assumptions which we believe to be
reasonable under the circumstances. Actual results could differ from those estimates. The
following are our critical accounting policies and the significant judgments and estimates
affecting the application of those policies in our consolidated financial statements. (See
Note 2 of the Notes to our Consolidated Financial Statements).

Revenue
Recognition. We recognize revenues in accordance with Staff Accounting Bulletin No.
104, or SAB 104, when each of the following four criteria are met:

| |  | delivery
has occurred and, where applicable, installation has occurred;
| | - | -----------------------------------------------------------------------

| |  | there
is persuasive evidence of an agreement;
| | - | ---------------------------------------------

| |  | the
fee is fixed or determinable; and
| | - | -------------------------------------

| |  | collection
is reasonably assured.
| | - | ---------------------------------

Revenue
from product sales to end users in North America usually includes multiple elements within
a single contract. We consider the sale of a product, the three-year warranty and service
and the two day on-site practice development consultation (where applicable) to be three
separate elements of the arrangement. We recognize revenue for the fair value of product
sale and the on-site practice development consultation in the period in which they occur
and we recognize revenue ratably over the warranty and service period.

In
certain limited circumstances, we, together with an unrelated third-party financing
company, enter into installment sales contracts that provide customers with long-term
(generally up to 36 months) financing of equipment purchases. The extent of the
participation of the financing company varies among customers. Interest income on these
receivables is recognized as earned over the financing term.

In
evaluating whether collection is reasonably assured, we review credit and operation
histories and customers facilities and in the case of independent distributors, we
will evaluate creditworthiness and other relevant factors.

37

---

---

If
changes in conditions cause management to determine that these criteria are not met for
future transactions, revenue recognized for any reporting period could be adversely
affected. Although we meet the requirements of SAB 104 upon shipment of product, and,
where applicable, when installation occurs, and the recording of revenue, we continually
evaluate our accounts receivable for any bad debts and make estimates for any bad debt
allowances.

We
do not maintain a general allowance for doubtful accounts for estimated losses resulting
from the inability of our customers to make required payments. We compute an allowance
based upon a specific customer account review of our customers. Our assessment of the
ability of our customers to pay generally includes direct contact with the customer,
investigation into their financial status, as well as consideration of their payment
history with us. If the financial condition of a customer were to deteriorate, resulting
in an impairment of its ability to make payments, additional allowance may be required. If
we determine, based on our assessment, that it is probable that a customer will be unable
to pay, we will write off the account receivable.

Taxes
on Income. We account for income taxes in accordance with Statement of Financial
Accounting Standards No. 109, Accounting for Income Taxes (SFAS No.
109). This statement prescribes the use of the liability method, whereby deferred
tax assets and liability account balances are determined based on differences between
financial reporting and tax bases of assets and liabilities and measured using the enacted
tax rates and laws that will be in effect when the differences are expected to reverse. We
provide a valuation allowance, if necessary, to reduce deferred tax assets to their
estimated realizable value. Our valuation allowance is based on our judgment on future
taxable income that would allow or prevent us from benefiting from our loss carryforwards.
Currently, our relatively short history of loss operations does not allow us to record any
tax benefit resulting from our subsidiaries losses.

Stock-Based
Compensation. We have elected to follow Accounting Principles Board Statement No. 25,
Accounting for Stock Options Issued to Employees (APB No. 25) and
FASB Interpretation No. 44 Accounting for Certain Transactions Involving Stock
Compensation (FIN No. 44) in accounting for our employee stock option
plans. Under APB No. 25, when the exercise price of an employee stock option is equivalent
to or above the market price of the underlying stock on the date of grant, no compensation
expense is recognized. Financial Accounting Standards Board Statement No. 148,
Accounting for Stock-Based Compensation transition and disclosure
(SFAS No. 148), which amended certain provisions of SFAS No. 123, provides
alternative methods of transition for an entity that voluntarily changes to the fair value
based method of accounting for stock-based employee compensation, effective as of the
beginning of the fiscal year. We continue to apply the provisions of APB No. 25 in
accounting for stock-based compensation. In 2005, we will implement Financial Accounting
Standards Board (FASB) Statement No. 123 (revised 2004), Share-Based Payment (SFAS
No. 123(R)), which is a revision of SFAS No. 123. Pursuant to SFAS No.123(R) we will
recognize compensation costs related to employee stock option plans based on the fair
value of the options, which we expect will likely increase the expenditures associated
with our incentive stock option plan. We use the Black-Scholes option-pricing model to
determine the fair value of each option grant to our consultants. The Black-Scholes model
includes assumptions regarding dividend yields, expected volatility, expected lives and
risk-free interest rates. These assumptions reflect managements best estimates, but
these items involve inherent uncertainties based on market conditions that are generally
outside of our control. As a result, if other assumptions had been used in the current
period, stock-based compensation expense could have been materially impacted. Furthermore,
if management uses different assumptions in future periods, stock-based compensation
expense could be materially impacted in future years.

Warranty and Service Costs


        We recognized warranty and service costs in relation
to products sold in North America to end users with a three-year warranty and
service obligation as incurred. For sales to customers outside North America, we
generally provide a one-year standard warranty for our products, depending on
the product type. On sales to distributors, we provide a warranty on parts only.
For customers other than North American end users, we provide for the estimated
cost to repair or replace products under warranty at the time of sale.

38

---

---

# Results of Operations

Years
Ended December 31, 2003 and December 31, 2004

Revenues.Revenues
increased $22.9 million, from $35.0 million in 2003 to $57.9 million in 2004, or 65%. The
increase was primarily attributable to increased unit sales due to increased market
acceptance of Syneron products and increased Polaris sales in the United States and the
rest of the world, the commercial launch of the Galaxy and the Comet, increased unit sales
in Europe due to the addition of more European countries to the sales and marketing
network, and increased sales in Asia-Pacific due to the establishment of a
distributors network in 11 Asian-Pacific countries.

Cost
of Revenues.Cost of revenues increased $2.5 million, from $4.4 million in 2003
to $6.9 million in 2004. The increase in cost of revenues was primarily attributable to
the increase in the number of products manufactured and sold in 2004. As a percentage of
revenue, cost of revenues decreased from 12.9% in 2003 to 11.7% in 2004 due to lower
average fixed costs and improved pricing from suppliers as a result of an increase in
sales volume.

Research
and Development Expenses.Research and development expenses increased $1.4
million, from $1.7 million in 2003 to $3.1 million in 2004. As a percentage of revenues,
research and development expenses increased from 4.9% in 2003 to 5.3% in 2004. The
increase was primarily attributable to expansion of our research and development staff and
its activities, as well as increased consulting services from outside engineering
companies.

Selling
and Marketing Expenses.Selling and marketing expenses increased $5.7
million, from $13.9 million in 2003 to $19.6 million in 2004. The increase in selling and
marketing expenses was primarily attributable to an increase in personnel costs associated
with the expansion of our North American sales force and increased activities in Europe,
Asia-Pacific and South America. As a percentage of revenues, selling and marketing
expenses decreased from 39.7% in 2003 to 33.9% in 2004. This decrease was primarily due to
the increase in our sales in 2004 and to the investment in our North American selling and
marketing operations in 2003.

General
and Administrative Expenses.General and administrative expenses increased $1.8
million, from $0.9 million in 2003 to $2.7 million in 2004. The increase in general and
administrative expenses was primarily attributable to an increase in personnel costs
associated with the expansion of our finance and other management functions and to
litigation expenses in connection with the Thermage litigation. As a percentage of
revenues, general and administrative expenses increased from 2.5% in 2003 to 4.7% in 2004.

Settlement
and Legal Costs.Expenses of $6.2 million in 2003 were attributable to settlement
and litigation costs associated with Lumenis Ltd. Of the $6.2 million in 2003, $4.2
million related to license fees under the license and settlement agreement with Lumenis
Ltd. The balance consisted of legal expenses related to the litigation.

Financial
Income.Financial income increased $1.5 million, from $0.9 million in 2003 to
$2.4 million in 2004. The increase in financial income was primarily attributable to
interest earned on our increasing cash balances and investments in 2004. As a percentage
of revenues, financial income increased from 2.5% in 2003 to 4.1% in 2004.

39

---

---

Taxes
on Income.Income taxes increased $0.4 million, from $0.2 million in 2003 to $0.6
million in 2004. As an Approved Enterprise in Israel, we are exempt from tax
on any income derived from our Approved Enterprise and we pay taxes only on
income from other sources. Our subsidiaries had loss carryforwards of approximately $4.0
million in 2004 as compared to approximately $5.8 million in 2003. We have recorded a
valuation allowance for these losses since it is more likely than not that we will not be
able to offset such losses against future income.

Years
Ended December 31, 2002 and December 31, 2003

Revenues.Revenues
increased $23.5 million, from $11.5 million in 2002 to $35.0 million in 2003, or 204.5%.
The increase was primarily attributable to increased unit sales of the Aurora in the
United States, which increased though they were impacted by the Lumenis litigation, the
commercial launch of the Polaris and the Pitanga, increased unit sales in Europe due to
the addition of more European countries to the sales and marketing network, and increased
sales in Asia-Pacific due to the establishment of a distributors network in eight
Asian-Pacific countries.

Cost
of Revenues.Cost of revenues increased $2.4 million, from $2.0 million in 2002
to $4.4 million in 2003. The increase in cost of revenues was primarily attributable to
the increase in the number of products which were manufactured and sold in 2003. As a
percentage of revenue, cost of revenues decreased from 17.6% in 2002 to 12.7% in 2003
primarily due to costs associated with the initial training and setup cost of our
manufacturing lines and infrastructure in our subcontractors facilities in 2002.

Research
and Development Expenses.Gross research and development expenses increased $0.6
million, from $1.2 million in 2002 to $1.8 million in 2003. The increase was primarily
attributable to increased personnel costs due to expansion of our research and development
staff, as well as increased consulting services. During 2002 and 2003, our research and
development costs were offset by grants of $0.2 million and $0.2 million, respectively,
from the Israeli Office of the Chief Scientist. These grants were received for development
of the Polaris in exchange for a royalty of 3.0% of Polaris sales annually until the
entire grant sum has been repaid. The balance owed to the Office of the Chief Scientist
was $0.3 million as of December 31, 2003. As a percentage of revenues, research and
development expenses decreased from 10.9% in 2002 to 5.3% in 2003. This decrease primarily
was caused by an increase in sales.

Selling
and Marketing Expenses.Selling and marketing expenses increased $8.1 million,
from $5.8 million in 2002 to $13.9 million in 2003. The increase in selling and marketing
expenses was primarily attributable to an increase in personnel costs associated with the
expansion of our North American sales force, increased activities in Europe and
Asia-Pacific, and the commencement of our sales efforts in South America. As a percentage
of revenues, selling and marketing expenses decreased from 50.6% in 2002 to 39.7% in 2003.
This decrease was primarily due to the increase in our sales in 2003 and due to the
investment in our North American selling and marketing operations in 2002.

General
and Administrative Expenses.General and administrative expenses increased $0.6
million, from $0.3 million in 2002 to $0.9 million in 2003. The increase in general and
administrative expenses was primarily attributable to an increase in personnel costs
associated with the expansion of our finance and other management functions. As a
percentage of revenues, general and administrative expenses decreased from 3.0% in 2002 to
2.5% in 2003.

Settlement
and Legal Costs.Expenses of $0.6 million in 2002 and $6.2 million in 2003 were
attributable to settlement and litigation costs associated with litigation with Lumenis
Ltd.

Financial
Income.Financial income increased $0.6 million, from $0.3 million in 2002 to
$0.9 million in 2003. The increase in financial income was primarily attributable to
interest earned on our increasing cash balances and investments in 2003. As a percentage
of revenues, financial income increased from 2.4% in 2002 to 2.5% in 2003.

40

---

---

Taxes
on Income.Income taxes increased $0.2 million, from $0.0 million in 2002 to $0.2
million in 2003. As an Approved Enterprise in Israel, we are exempt from tax
on any income derived from our Approved Enterprise and we pay taxes only on
income from other sources. Our subsidiaries had loss carryforwards of approximately $1.8
million in 2002 as compared to approximately $5.8 million in 2003. We have recorded a
valuation allowance for these losses since it is more likely than not that we will not be
able to offset such losses against future income.

# Deferred Stock-Based
Compensation

We
record deferred stock-based compensation for financial reporting purposes under the
guidance of Accounting Principles Board Statement No. 25, Accounting for Stock
Options Issued to Employees and provide pro forma information under Statement for
Financial Accounting Standards No. 123 Accounting for Stock-Based
Compensation. (See Note 2(m) to the Notes to our Consolidated Financial Statements).
We grant options to our employees, directors and consultants. Deferred stock-based
compensation is amortized on a straight-line basis to cost of revenues, selling and
marketing expenses, research and development expenses, and general and administrative
expenses. Deferred stock-based compensation granted from 2001 through December 31, 2004
was $1.35 million, with accumulated amortization of $1.0 million. The remaining $0.35
million will be amortized over the vesting periods of the options, generally three to four
years from the date of grant. We expect to record amortization expense for employee and
director deferred stock-based compensation as follows:

|Year | Amount
|---- | ------
|
|
|
|
|2005 |       
|2006 |       
|2007 |       

In
2005, we will implement Financial Accounting Standards Board (FASB) Statement No. 123
(revised 2004), Share-Based Payment (SFAS No. 123(R)), which is a revision of
FASB Statement No. 123, Accounting for Stock-Based Compensation (SFAS No.
123). Pursuant to SFAS No. 123(R) we will recognize compensation costs related to
employee stock option plans based on the fair value of the options, which we expect will
likely increase the expenditures associated with our incentive stock option plan.

# Quarterly Results of
Operations

The
following table presents our unaudited quarterly results of operations for the eight
quarters in the period ended December 31, 2004. This unaudited information has been
prepared on the same basis as our annual audited consolidated financial statements and
includes all adjustments, consisting only of normal recurring adjustments, necessary for a
fair presentation of the unaudited information for the quarters presented. You should read
this information together with the audited consolidated financial statements and the
related notes included elsewhere in this annual report. The operating results for any
quarter are not necessarily indicative of the results for any future quarters or for a
full year. As an accommodation to our customers we sell accessory devices manufactured,
sold and serviced by others at the same prices that such devices can be purchased from the
manufacturers representatives. In connection with preparing our 2004 financial
statements, we decided to include the net amount received from such sales in revenues in
accordance with EITF 99-19. Prior to this decision, revenues for the quarters ended March
31, June 30 and September 30, 2004 had been reported on the basis of including the full
sales price of accessories in revenues and the associated cost in cost of revenues. As a
result, revenues and cost of revenues as previously reported were each $180 greater in the
quarter ended March 31, 2004, $350 greater in the quarter ended June 30, 2004 and $236
greater in the quarter ended September 30, 2004. Sales of accessories were not significant
prior to the quarter ended March 31, 2004.

41

---

---

|                                          | Three months ended
|----------------------------------------- | ------------------
|
|
|
|
|Revenues                                  |                   
|Cost of revenues                          |                   
|                                          |                   
|Gross profit                              |                   
|Operating expenses:                       |                   
|Research and development, net             |                   
|Selling and marketing, net                |                   
|General and administrative                |                   
|Settlement and legal costs                |                   
|                                          |                   
|Total operating expenses                  |                   
|                                          |                   
|Operating income (loss)                   |                   
|Financial income (expense), net           |                   
|Income (loss) before taxes on income      |                   
|Taxes on income                           |                   
|                                          |                   
|Net income (loss)                         |                   
|                                          |                   
|Net earnings (loss) per share:            |                   
|Basic                                     |                   
|                                          |                   
|Diluted                                   |                   
|                                          |                   
|Weighted-average number of shares used in |                   
|actual per share calculations:            |                   
|Basic                                     |                   
|                                          |                   
|Diluted                                   |                   
|                                          |                   
|As a Percentage of Total Sales:           |                   
|Revenues                                  |                   
|Cost of revenues                          |                   
|                                          |                   
|Gross profit                              |                   
|Operating expenses:                       |                   
|Research and development, net             |                   
|Selling and marketing, net                |                   
|General and administrative                |                   
|Settlement and legal costs                |                   
|                                          |                   
|Total operating expenses                  |                   
|                                          |                   
|Operating income (loss)                   |                   
|Financial income (expense), net           |                   
|Income (loss) before taxes on income      |                   
|Taxes on income                           |                   
|                                          |                   
|Net income (loss)                         |                   
|                                          |                   

We
expect that the amount and timing of our sales expenses will vary from quarter to quarter
depending on our level of actual and anticipated business activities.

Our
sales and operating results are difficult to forecast and will fluctuate, and we believe
that period-to-period comparisons of our operating results will not necessarily be
meaningful. See Item 3.D Risk Factors  Our quarterly operating results are
likely to fluctuate, which could cause us to miss expectations about these results and
cause the trading price of our ordinary shares to decline.

|B. | LIQUIDITY
AND CAPITAL RESOURCES
|-- | -------------------------------

From
December 31, 2002 through August 10, 2004, we funded our operations principally from
private placements of preferred shares that resulted in aggregate net proceeds of
approximately $3.3 million. On August 11, 2004, we completed our initial public offering,
which resulted in net proceeds of approximately $54.0 million. Except for $0.2
million raised from the exercise of warrants in 2003, we were not able to raise additional
capital during the pendency of the Lumenis litigation and funded our operations entirely
through cash flow from operations.

42

---

---

As
of March 31, 2005, we did not have any outstanding or available debt financing
arrangements. As of December 31, 2004, we had working capital of $95.1 million, and our
primary source of liquidity was $93.5 million in cash, cash equivalents and marketable
securities and cash flow from operations.

We
believe that our cash balances and cash generated from operations will be sufficient to
meet our anticipated cash requirements for the foreseeable future. If existing cash and
cash generated from operations are insufficient to satisfy our liquidity requirements, we
may seek to sell additional equity or debt securities or obtain a credit facility. If we
raise additional funds through the issuance of debt securities, these securities could
have rights senior to those associated with our ordinary shares and could contain
covenants that would restrict our operations. We cannot be sure that we will not require
additional capital beyond the amounts currently forecasted by us, nor that any such
required additional capital will be available on reasonable terms, if at all.

Net
Cash Provided By Operating Activities.Net cash provided by operating activities
was $2.3 million in 2002, $14.4 million in 2003 and $22.6 million in 2004. The change in
net cash provided by operating activities reflects the growth in sales activity as well as
our increased profitability and increasing levels of collection of accounts receivables
netted against other working capital items. During 2004, trade receivables and other
accrued liabilities increased significantly as a result of increased sales. As revenues
grow, we anticipate that our trade receivables and inventory will continue to grow
requiring an increase in our required level of working capital.

Net
Cash Used in Investing Activities.Net cash used in investing activities was
$(0.3) million in 2002, $(12.0) million in 2003 and $(70.0) million in 2004. Cash used in
investing activities is primarily attributable to short- and long-term investment of cash.
For the year ended December 31, 2002, we invested $0.2 million in capital expenditures,
consisting primarily of lab equipment, test equipment, computers, software and ERP
software. For the year ended December 31, 2003, we invested $0.3 million in capital
expenditures consisting primarily of lab equipment, test equipment, computers, software
and ERP software. For the year ended December 31, 2004, we invested $1.5 million and we
expect that our capital expenditures will be approximately $1 million in 2005. Our capital
expenditures in 2004 consisted primarily of purchases of a patent, software, manufacturing
equipment and general equipment. We expect our capital expenditures in 2005 to consist of
the same types of capital expenditures that we had in 2004.

Net
Cash Provided By (Used in) Financing Activities.Net cash provided by (used in)
financing activities was $1.3 million in 2002, $(0.4) million in 2003 and $53.7 million in
2004. Net cash provided in 2002 was primarily attributable to the issuance of our
preferred and ordinary shares and to a lesser extent the incurrence of short-term
indebtedness. The use of cash in 2003 was primarily attributable to the
repurchase of a portion of our preferred shares and the repayment of our outstanding
indebtedness. Net cash provided by financing activities in 2004 was primarily attributable to the proceeds of our initial public offering.

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

Our
research and development activities are conducted internally by a research and development
staff consisting of 23 employees. Our research and development efforts are focused on the
development of new products, as well as the extension of our existing products to new
applications in the non-invasive aesthetic medical market. We intend to develop products
and product line extensions that leverage our existing ELOS platform. We have a number of
new projects and products under development, mainly focusing on additional non-invasive
aesthetic treatments.

43

---

---

Our
research and development effort has been focused on the development of products that
leverage our existing ELOS platform rather than developing new technologies. Our gross
research and development expenditures were $1.2 million in 2002, $1.9 million in 2003 and
$3.1 million in 2004. We expect to continue to increase our expenditures on research and
development.

|D. | TREND
INFORMATION
|-- | -----------------

In
2004, we continued our sales momentum and increased sales from $35 million in 2003 to $58
million in 2004. The increase in sales is attributed to the introduction of new platforms
to our portfolio (the Comet, the Vela and the Galaxy) and to the expansion of our
marketing and sales network in Asia, Europe and South America. We have recently received a
510(k) premarket clearance from the FDA for our Vela platform and believe that our ability
to market and sell this platform in the United States would further increase our sales in
the future.

In
2004, we increased our production capacity through all three outsourcing companies that
are serving Syneron as sub-contractors. In 2004, we did not increase the average selling
price of our platforms.

We
intend to continue the development of new products and procedures in the medical aesthetic
market in order to maintain the growth in revenue and net income. We currently do not
foresee any change in a major trend that can have a material affect on our revenue,
profitability and liquidity.

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

We
do not have off-balance sheet arrangements (as such term is defined in Item E(2) of the
Form 20-F) that have or are reasonably likely to have a current or future effect on our
financial condition, changes in financial conditions, revenues or expenses, results of
operations, liquidity, capital expenditures or capital resources that are material to
investors.

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

The
following table summarizes our contractual commitments as of December 31, 2004 and the
effect those commitments are expected to have on our liquidity and cash flow in future
periods:

|                          | Payments Due by Period
|------------------------- | ----------------------
|
|
|
|
|Operating leases          |                       
|Settlement and litigation |                       
|                          |                       
|Total                     |                       

44

---

---

|ITEM 6. |  | DIRECTORS,
SENIOR MANAGEMENT AND EMPLOYEES
|------- |  | ------------------------------------------

|A. | DIRECTORS
AND SENIOR MANAGEMENT
|-- | -------------------------------

The
following table sets forth information regarding our executive officers and directors as
of March 31, 2005:

|Name                 | Age | Position(s)                                             
|-------------------- | --- | --------------------------------------------------------
|
|
|
|
|Dr. Shimon Eckhouse  | 59  | Chairman of the Board of Directors and Director         
|Moshe Mizrahy        | 52  | Chief Executive Officer and Director                    
|Dr. Michael Kreindel | 38  | Chief Technology Officer and Director                   
|David Schlachet      | 59  | Chief Financial Officer                                 
|Domenic Serafino     | 43  | President of Syneron Inc. and Syneron Canada Corporation
|Marshall Butler      | 77  | Director                                                
|*Dr. Hadar Ron       | 45  | Director                                                
|Dr. Michael Anghel   | 66  | External Director                                       
|Dan Suesskind        | 61  | External Director                                       
|                     |     |                                                         

* Dr.
          Hadar Ron resigned from the board of directors in May 2005. We intend to elect a
          new director to replace Dr. Ron on our board of directors promptly.

Dr.
          Shimon Eckhouse has served as the chairman of our board of directors since
          May 2004. Dr. Eckhouse is the chairman of OrSense Ltd., CardioDex Ltd., NanoCyte
          Ltd. and Edge Medical Devices Ltd. and a director of WideMed Ltd., ColorChip
          Ltd., Ventor Medical Technologies Ltd. and Matteris Ltd. Dr. Eckhouse was a
          co-founder of ColorChip and served as its active chairman from 2003 to January
          2004 and as its chief executive officer from 2001 to 2003. Dr. Eckhouse was the
          chairman and chief executive officer of ESC Medical Systems from its inception
          in 1992 until 1999. Prior to founding ESC Medical Systems, Dr. Eckhouse was head
          of product development and technical director at Maxwell Technologies in San
          Diego, California. Before that, Dr. Eckhouse was a scientist, team leader and
          head of a department in Rafael, Armament Development Authority of Israel and was
          active in various areas of research and development, including lasers and
          electro-optics. Dr. Eckhouse holds a B.Sc. in physics from the Technion Israeli
          Institute of Technology and a Ph.D. in physics from the University of California
          at Irvine. He has more than 20 registered patents and published more than 50
          papers in leading reference journals and conferences. He is also a member of the
          Board of Directors of the Technion Israeli Institute of Technology.

Moshe
Mizrahy has served as our chief executive officer since 2001 and has been a member of
our board of directors since November 2001. Mr. Mizrahy is a director of Galil Winery.
From 1996 until 2001, Mr. Mizrahys primary business was as the founder and owner of
Business Strategy Group, a strategic planning consulting group. Mr. Mizrahy served as
corporate engineering and strategic planner with AVX-Kyocera Corporation, an electronic
components and devices company, from 1980 to 1986. Mr. Mizrahy served as president of Zag
Industries Ltd., a manufacturer of consumer plastic products. Mr. Mizrahy holds a B.Sc. in
industrial engineering from the Tel-Aviv University in Israel and an M.B.A. from Pace
University in New York, New York.

Dr.
          Michael Kreindel has served as our chief technology officer and a member of
          our board of directors since our inception in July 2000. From 1994 to 2000, Dr.
          Kreindel was first a senior scientist and then project and program manager in
          ESC Sharplan. Dr. Kreindel was leader of a scientific group in the Institute of
          Electrophysics in Russia. Dr. Kreindel has an M.A. in experimental and plasma
          physics from the Ural Politechnical Institute in Russia and a Ph.D. in pulsed
          power, gas discharge and plasma physics from the Institute of Electrophysics in
          Russia.

45

---

---

David
Schlachet has served as our chief financial officer since July 2004. From 2000 to June
2004, Mr. Schlachet served as Managing Partner of Biocom, a venture capital fund
specializing in the life sciences area. From 1995 to 2000, Mr. Schlachet served as a
senior Vice President and Chief Financial Officer of Strauss Elite Holdings, a packaged
food group. From 1990 to 1995, Mr. Schlachet served as Vice President of Finance and
Administration of the Weizmann Institute of Science. Mr. Schlachet serves as a director
for Nasdaq listed companies Pharmos Inc. and Compugen Ltd. and is a director of Israel
Discount Bank. In addition, Mr. Schlachet serves as a director for Tel-Aviv Stock Exchange
listed companies Taya Investments Ltd. and Edgar Investments and Developments Ltd., as
well as a director of several privately owned Israeli companies. Mr. Schlachet holds a
B.Sc. degree in chemical engineering and an M.B.A. from the Tel-Aviv University.

Domenic
Serafino has served as the president of Syneron Inc. and Syneron Canada Corporation
since 2002. From March 1996 to January 2002, Mr. Serafino served as president and chief
operation officer of the Sigmacon Group, a Canadian company specializing in marketing,
sales and service of aesthetic medical products. Mr. Serafino is a graduate in marketing
management from Centennial College of Applied Arts & Technology in Ontario, Canada.

Marshall
Butler has served as a director since October 2003. Mr. Butler is a co-founder and has
served as chairman of both First Israel Mezzanine Investors Fund and Israeli Infinity
Venture Capital Fund since 1996. Mr. Butler is a director of Shellcase Ltd., Galil Medical
Ltd., New York State Council of Humanities and A.R.T. New York. Mr. Butler served as
chairman of Nitzanim, AVX/Kyocera Corporation from 1994 to 2001. Mr. Butler served as
chief executive officer and chairman of AVX Corporation from 1974 to 1993 and as director
of Kyocera Venture Capital from 1990 to 1994. Mr. Butler is on the board of governors of
the Technion Institute in Haifa, Israel. In 1998, Mr. Butler received the Israeli Prime
Ministers award for his contribution to Israeli industry. In 2001, he received an
Honoree Doctorate from the Technion Institute.

Dr.
          Hadar Ron has served as a director from January 2002 until May 2005, when
          she resigned from our board of directors. Dr. Ron has served as the managing
          director of Israel Healthcare Ventures Ltd. since March 2001. Dr. Ron was
          employed by Shiloch-Harel Insurance Group, Tel Aviv, Israel, as head of the
          claims department from 1996 to 2001. Dr. Ron holds M.D. and L.L.B. degrees from
          Tel Aviv University in Israel and has studied at the School of Business
          Administration at Tel Aviv University.

Dr.
          Michael Anghel has served as a director since November 2004. Since 2004, Dr.
          Anghel has served as the President and CEO of Israel Discount Capital Markets
          & Investments Corp., a subsidiary of the Israel Discount Bank. From 2000 to
          2004, Dr. Anghel served as the chief executive officer of CAP Ventures, an
          operating venture capital company he founded that has invested and established a
          number of information technology and communications enterprises. Since 1980, Dr.
          Anghel has been directly involved in founding, managing and directing a variety
          of industrial, technology and financial enterprises. Dr. Anghel also served as a
          director of major publicly listed corporations and a number of financial
          institutions and providence funds. Dr. Anghel is currently a director of
          PowerDsine Ltd. and Orbotech Ltd. From 1969 to 1977, Dr. Anghel was a full-time
          member of the faculty of the Graduate School of Business at the Tel-Aviv
          University teaching in the areas of finance and corporate strategy. Dr. Anghel
          served on various Israeli governmental policy committees in the areas of
          communications and public finance. Dr. Anghel received his B.A. in Economics
          from the Hebrew University in 1960, an M.B.A. in Economics and Finance from
          Columbia University in 1964, and a Ph.D. in International Finance from Columbia
          University in 1969.

Dan
Suesskind has served as a director since November 2004. Mr. Suesskind has held
numerous positions with Teva Pharmaceutical Industries Ltd. since 1976, including as a
director, from 1981 until 2001, and chief financial officer since 1978. From 1970 until
1976, Mr. Suesskind was a consultant and securities analyst with I.C. International
Consultants Ltd. Mr. Suesskind is a member of the Jerusalem Foundation, Investment
Advisory Committee, Board of Trustees of Hebrew University, board member of First
International Bank and a board member of Migdal Insurance Company Ltd. Mr. Suesskind
received his B.A. in Economics and Political Science from the Hebrew University in 1965, a
certificate in Business Administration from the Hebrew University in 1967, and an M.B.A.
from the University of Massachusetts in 1969.

46

---

---

Each
of our executive officers serves at the discretion of our board of directors and holds
office until his or her successor is elected or his or her earlier resignation or removal.

|B. | COMPENSATION
|-- | ------------

The
aggregate direct compensation we paid to our directors who are not officers for their
services as directors as a group (three out of the five persons) for the year ended
December 31, 2004 was approximately $45,800. This amount includes payment to our Chairman
of the Board. Directors are reimbursed for expenses incurred in order to attend board or
committee meetings.

The
aggregate direct compensation we and our subsidiaries paid to the officers as a group
(four persons) for the year ended December 31, 2004 was approximately $0.7 million. This
amount includes approximately $0.15 million which was set aside or accrued to provide for
pension, retirement or similar benefits. This amount does not include expenses we incurred
for other payments, including dues for professional and business associations, business
travel and other expenses, and other benefits commonly reimbursed or paid by companies in
Israel. We did not pay our officers who also serve as directors any separate compensation
for their directorship during 2004, other than reimbursements for travel expenses.

As
of March 31, 2005, there were outstanding options to purchase 800,160 ordinary shares
granted to our directors and officers (five persons), at exercise prices ranging from
$0.07 to $25. 677,160 of these options shall expire in the year 2010 and the remainder
123,000 options shall expire in the year 2011.

For
a description of the plans pursuant to which such options were granted please see Item 6.E
below.

|C. | BOARD
PRACTICES
|-- | ---------------

# Board of Directors

In
general, the number of members of our board of directors will be determined from time to
time by a vote of at least 75% of the ordinary shares present and entitled to vote,
provided that there shall be no more than 11 and no fewer than three directors. Our board
of directors consists of six directors. Two of the directors, Dr. Anghel and Mr.
Suesskind, are external directors under Israeli law and are independent for Nasdaq
purposes. Other than external directors, who are subject to special election requirements
under Israeli law, our directors are elected in three staggered classes by the vote of a
majority of the ordinary shares present and entitled to vote. The directors of only one
class are elected at each annual meeting, so that the regular term of only one class of
directors expires annually. At our annual general meeting held in June 22, 2005, the term
of the first class, consisting of Dr. Kreindel and Mr. Mizrahy, expired, and they were
re-elected for an additional three-year terms. At our annual general meeting to be held in
2006, the term of the second class, consisting of Mr. Butler and a director to be elected
in replacement of Dr. Ron, who resigned from the board of directors in May 2005, will
expire and the directors elected at that meeting will be elected for three-year terms. At
our annual general meeting to be held in 2007, the term of the third class, consisting of
Dr. Eckhouse, will expire and the director elected at that meeting will be elected for a
three-year term. The external directors will not be assigned a class. The general meeting
of our shareholders may dismiss a director during his or her term of office only by a vote
of at least 75% of the ordinary shares present and entitled to vote (except for external
directors, who may be dismissed only in the manner prescribed in the Companies Law).

We
have employment and consultancy agreements with our principal executive officers. These
agreements contain salary, benefit, non-competition and other provisions that we believe
to be customary in our industry. In addition, these agreements provide for up to six
months of liquidation fees in certain events of termination of employment. Agreements with
our directors (serving in that capacity) do not provide for benefits upon termination of
employment.

47

---

---

# External Directors

We
are subject to the Israeli Companies Law. Under the Companies Law, Israeli companies whose
shares have been offered to the public in or outside of Israel are required to appoint at
least two external directors to serve on their board of directors. 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.
Our external directors are Dr. Anghel and Mr. Suesskind.

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,
employees 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, however, service as a director for a period of no more than three months during
which we first offer our shares to the public is not considered a prohibited affiliation.

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.

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

| |  | 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
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------

| |  | 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 one additional three-year term. 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 of a vacancy created by an
external director, our board of directors is required under the Companies Law to call a
shareholders meeting to appoint a new external director as soon as practicable.

External
directors may be compensated only in accordance with regulations adopted under the
Companies Law. The regulations provide three alternatives for cash compensation to
external directors: a fixed amount determined by the regulations, an amount within a range
set in the regulations, or an amount that is equal to the average compensation to other
directors who are not controlling shareholders of the company or employees or service
providers of the company or its affiliates. A company also may issue shares or options to
an external director at the average amount granted to directors who are not controlling
shareholders of the company or employees or service providers of the company or its
affiliates. Cash compensation at the fixed amount determined by the regulations does not
require shareholder approval. Compensation determined in any other manner requires the
approval of the companys audit committee, board of directors and shareholders.
Compensation of external directors must be determined prior to their consent to serve as
an external director.

# Committees of the Board
of Directors

Our
board of directors has established three standing committees, the audit committee, the
compensation committee and the nominating and governance committee.

48

---

---

Audit
Committee.Under the Companies Law, the board of directors of any public company
must establish an audit committee. The audit committee must consist of at least three
directors and must include all of the external directors. The audit committee may not
include the chairman of the board, any director employed by the company or providing
services to the company on an ongoing basis, a controlling shareholder or any of the
controlling shareholders relatives. In addition, under the listing requirements of
the Nasdaq National Market, we also are required to maintain an audit committee of at
least three members, all of whom are independent directors under the Nasdaq National
Market listing requirements. The rules of the Nasdaq National Market also require that at
least one member of the audit committee be a financial expert.

Our
audit committee, acting pursuant to a written charter, is comprised of Dr. Anghel, who has
been designated as the audit committee financial expert and Mr. Suesskind. Dr. Ron, who
was also a member of the audit committee, resigned from our board of directors in May
2005. The audit committee meets the requirements of the Sarbanes-Oxley Act of 2002 and the
rules and regulations thereunder. We intend to elect a new director to replace Dr. Ron on
our board of directors and committees of the board promptly.

The
audit committee provides assistance to the board of directors in fulfilling its legal and
fiduciary obligations in matters involving our accounting, auditing, financial reporting,
internal control and legal compliance functions by approving the services performed by our
independent accountants and reviewing their reports regarding our accounting practices and
systems of internal accounting controls. The audit committee also oversees the audit
efforts of our independent accountants and takes those actions as it deems necessary to
satisfy itself that the accountants are independent of management. Under the Companies
Law, the audit committee also is required to monitor deficiencies in the administration of
the company, including by consulting with the internal auditor, and to review and approve
related party transactions.

Compensation
Committee.Our compensation committee, acting pursuant to a written charter, is
comprised of Dr. Anghel and Mr. Butler. Dr. Ron, who was also a member of the compensation
committee, resigned from our board of directors in May 2005. We intend to elect a new
director to replace Dr. Ron on our board of directors and committees of the board
promptly. The composition and functions of the compensation committee meet the
requirements of the Nasdaq National Market rules, with which we comply voluntarily. The
compensation committee makes recommendations to the board of directors regarding the
issuance of employee share options under our share option and benefit plans and determines
salaries and bonuses for our executive officers and incentive compensation for our other
employees.

Nominating
and Governance Committee.Our nominating and governance committee, acting
pursuant to a written charter, is comprised of Dr. Anghel and Mr. Butler. Dr. Ron, who was
also a member of the nominating and governance committee, resigned from our board of
directors in May 2005. We intend to elect a new director to replace Dr. Ron on our board
of directors and committees of the board promptly. The committee is responsible for making
recommendations to the board of directors regarding candidates for directorships and the
size and composition of the board. In addition, the committee is responsible for
overseeing our corporate governance guidelines and reporting and making recommendations to
the board concerning corporate governance matters. The composition and function of our
nominating and governance committee meets the requirements of the rules of the Nasdaq
National Market, with which we comply voluntarily.

# Internal Auditor

Under
the Companies Law, the board of directors must also appoint an internal auditor nominated
by the audit committee. Our internal auditor is Ezra Yehuda, C.P.A. The role of the
internal auditor is to examine whether a companys actions comply with the law and
proper business procedure. The internal auditor may be an employee of the company employed
specifically to perform internal audit functions but may not be an interested party or
office holder, or a relative of any interested party or office holder, and may not be a
member of the companys independent accounting firm or its representative. The
Companies Law defines an interested party as a holder of 5% or more of the shares or
voting rights of a company, any person or entity that has the right to nominate or appoint
at least one director or the general manager of the company or any person who serves as a
director or as the general manager of a company.

49

---

---

|D. | EMPLOYEES
|-- | ---------

The
breakdown of our employees by department and geographic location is as follows:

|                                          | As of December 31
|----------------------------------------- | -----------------
|
|
|
|
|Management, administration and operations |                  
|Research and development                  |                  
|Selling and marketing                     |                  
|Total                                     |                  
|                                          |                  
|Israel                                    |                  
|North America                             |                  
|Asia-Pacific                              |                  
|Germany                                   |                  

Some
provisions of the collective bargaining agreement between the Histadrut, which is the
General Federation of Labor in Israel, and the Coordination Bureau of Economic
Organizations, including the Industrialists Association of Israel, apply to our
Israeli employees by virtue of extension orders of the Israeli Ministry of Labor and
Welfare. These provisions concern the length of the workday and the work-week,
recuperation pay and commuting expenses. Furthermore, these provisions provide that the
wages of most of our employees are adjusted automatically based on changes in
Israels Consumer Price Index. The amount and frequency of these adjustments are
modified from time to time. In addition, Israeli law determines minimum wages for workers,
minimum vacation pay, sick leave, insurance for work-related accidents, determination of
severance pay and other conditions of employment. We have never experienced a work
stoppage, and we believe our relations with our employees are good.

Israeli
law generally requires the payment of severance pay by employers upon the retirement or
death of an employee or termination of employment without cause. As of December 31, 2004,
our accrued severance pay funds totaled $0.2 million. We fund our ongoing severance
obligations by making monthly payments to insurance policies. Furthermore, Israeli
employees and employers are required to pay predetermined sums to the National Insurance
Institute, which is similar to the U.S. Social Security Administration. These amounts also
include payments for national health insurance. The payments to the National Insurance
Institute are approximately 16.0% of wages, up to a specified amount of which the employee
contributes approximately 10.0% and the employer contributes approximately 6.0%.

|E. | SHARE
OWNERSHIP
|-- | ---------------

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

Beneficial
ownership of shares is determined in accordance with the rules of the SEC and generally
includes any shares over which a person exercises sole or shared voting or investment
power. Ordinary shares that are subject to warrants or stock options that are presently
exercisable or exercisable within 60 days of the date of March 31, 2005 are deemed to be
outstanding and beneficially owned by the person holding the stock options for the purpose
of computing the percentage ownership of that person, but are not treated as outstanding
for the purpose of computing the percentage of any other person.

Except
as indicated in the footnotes to this table, each shareholder in the table has sole voting
and investment power for the shares shown as beneficially owned by them. Percentage
ownership is based on 24,634,298 ordinary shares outstanding on March 31, 2005.

50

---

---

|                            | Number | Percent
|--------------------------- | ------ | -------
|
|
|
|
|Executive Officers          |        |        
|and Directors:              |        |        
|Dr. Shimon Eckhouse(1)      |        |        
|Moshe Mizrahy(2)            |        |        
|Dr. Michael Kreindel        |        |        
|David Schlachet             |        |        
|Domenic Serafino(3)         |        |        
|Marshall Butler(4)          |        |        
|Dr. Hadar Ron(5)            |        |        
|Dr. Michael Anghel(6)       |        |        
|Dan Suesskind(7)            |        |        
|All directors and executive |        |        
|officers as a group         |        |        
|(9 persons)                 |        |        

|(1) | Includes
2,287,331 shares held by Starlight Capital Ltd. and 341,816 shares held
                    by European High-Tech Capital S.A., which are corporations wholly
owned by                     foundations that were created for the benefit of members of
Dr. Eckhouses                     family. Dr. Eckhouse disclaims beneficial
ownership of these shares.
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(2) | Includes
1,338,700 shares that are beneficially owned by M.N.M.M. Holdings Ltd.
                    Moshe Mizrahy and his wife Nitzan Mizrahy are the beneficial owners
of M.N.M.M.                     Holdings Ltd.
|--- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(3) | Includes
options to purchase 541,160 ordinary shares that are exercisable in the
                    next 60 days, for an exercise price of $0.07 and that expire in May
2010 and                     options to purchase additional 5,000 ordinary shares that
are exercisable in the                     next 60 days for an exercise price of $25.75
and that expire in December 2011.
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(4) | Includes
options to purchase 136,000 of our ordinary shares that are exercisable
                    in the next 60 days, for an exercise price of $ 0.14 per share and
that expire                     in May 2010.
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(5) | Dr.
Hadar Ron resigned from our board in May 2005. Dr. Ron is the Managing
                    Director of Israel Healthcare Ventures, Ltd., which is the general
partner of                     Israel HealthCare Ventures LP, which held, as of March 31,
2005, 1,402,696 of                     our ordinary shares. Dr. Hadar Ron disclaimed
beneficial ownership of the shares                     held of record by Israel
HealthCare Ventures LP. In June 2005, Israel Healthcare                     Ventures,
Ltd. informed us that it sold all or substantially all of its holdings
                    in Syneron.
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(6) | Includes
options to purchase 4,000 ordinary shares that are exercisable in the
                    next 60 days for an exercise price of $25.75 and that expire in
December 2011.
|--- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(7) | Includes
options to purchase 4,000 ordinary shares that are exercisable in the
                    next 60 days for an exercise price of $25.75 and that expire in
December 2011.
|--- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

# Employee Benefit Plans

Prior
to the adoption of the 2004 Plans, we maintained one equity incentive plan adopted in
2003, which served as an umbrella plan for all of our employees, directors, officers and
other eligible persons worldwide. Prior to the 2003 Plan, we granted options according to
individual agreements with the grantees, without adopting a specific plan.

As
of December 31, 2004, we had 4,476,761 options outstanding, all of which were issued
under the 2003 Plan or conformed to the terms of the 2003 Plan. On May 12, 2004, our board
of directors cancelled the unallocated options under the 2003 Plan.

On
July 12, 2004, our board of directors and shareholders adopted separate 2004 plans for
Israel and for the United States, Canada and the rest of the world. On November 11, 2004,
our shareholders approved the 2004 United States, Canada and Rest of World Plan.

During
the period from August 2004 to December 2004, we granted 664,000 options under the 2004
Plans.

We
adopted both the 2003 Plan and the 2004 Israel Plan under Section 102 of the Israeli
Income Tax Ordinance.

51

---

---

Options
granted to employees under the 2003 Plan generally vest over three to four years from the
grant date. Any option not exercised within seven years of the grant date will expire
unless extended by the board of directors. If we terminate the engagement with a grantee
for cause, all of his or her vested and unvested options expire immediately. If we
terminate the engagement with a grantee for any other reason or the grantee resigns, the
grantee may exercise his or her vested options within six months of the date of
termination. A grantee who terminates his or her engagement with us due to death or
disability may exercise his or her options (or in case of death  by the estate or
the legal successor of the grantee) within 12 months of the date of death or disability.
In case of retirement, the post-retirement period of exercise is set at the discretion of
the Board or the compensation committee. Any expired or terminated options return to the
plan and are automatically cancelled.

Under
the 2003 Plan, we have granted to our directors, officers, employees and consultants and
those of any of our subsidiaries, options to purchase our ordinary shares. Since May 12,
2004, all option grants to our Israeli employees have been issued under the 2004 Israel
Plan and, unless we adopt a new plan, all such grants in the future will be issued under
the 2004 Israel Plan. The 2004 Israel Plan also allows for beneficial tax treatment for
options issued through a trustee. Based on Israeli law currently in effect and elections
made by us, and provided that options granted or, upon their exercise, the underlying
shares, issued under the plan are held by the trustee for at least two years following the
end of the calendar year in which the options are granted, Israeli employees are (i)
entitled to defer any taxable event with respect to the options until the underlying
shares are sold, and (ii) subject to capital gains tax of 25% on the sale of the shares.
We may not recognize expenses pertaining to the options for Israeli tax purposes.

Israeli
tax law allows us to choose from among three alternative sets of tax treatment for our
2004 Israel Plan or future plans. In approving the 2004 Israel Plan, the board of
directors selected the capital gains tax treatment described above.

Under
the 2004 United States, Canada and Rest of World Plan, we may grant to our non-Israeli
directors, officers, employees and consultants, options to purchase our ordinary shares.
These plans were adopted to allow favorable tax treatment for our United States and
Canadian directors, officers, employees and consultants. Since May 12, 2004, all option
grants to our non-Israeli employees have been issued under the 2004 United States, Canada
and Rest of World Plan and, unless we adopt a new plan, all such grants in the future will
be issued under the 2004 United States, Canada and Rest of World Plan.

Each
of the 2004 Plans expires in 2014 and has an evergreen provision which automatically
increases the pool of ordinary shares reserved under the Plans at the beginning of each
calendar year.

|ITEM 7. |  | MAJOR
SHAREHOLDERS AND RELATED PARTY TRANSACTIONS
|------- |  | -------------------------------------------------

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

The
following table sets forth information, as of March 31, 2005, regarding the beneficial
ownership of our ordinary shares by each person or entity that we know beneficially owns
more than 5% of our outstanding ordinary shares.

Except
as indicated in the footnotes to this table, each shareholder in the table has sole voting
and investment power for the shares shown as beneficially owned by them. Percentage
ownership is based on 24,634,298 ordinary shares outstanding as of March 31, 2005.

52

---

---

|                              | Shares | Percentage
|----------------------------- | ------ | ----------
|
|
|
|
|M.N.M.M. Holdings Ltd.(1)     |        |           
|Dr. Michael Kreindel          |        |           
|Starlight Capital Ltd.(2)     |        |           
|Lintech International Inc.(3) |        |           
|Israel HealthCare             |        |           
|Ventures LP(4)                |        |           
|Sprott Asset Management Inc.  |        |           

|(1) | Includes
1,338,700 shares that are beneficially owned by M.N.M.M. Holdings Ltd.
                    Moshe Mizrahy and his wife Nitzan Mizrahy are the beneficial owners
of M.N.M.M.                     Holdings Ltd.
|--- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(2) | A
corporation wholly owned by foundations that were created for the benefit of
                    members of Dr. Eckhouses family. Dr. Eckhouse disclaims
beneficial                     ownership of these shares. Excludes 341,816 shares held by
European High-Tech                     Capital S.A., which is also a corporation wholly
owned by foundations that were                     created for the benefit of members of
Dr. Eckhouses family. Dr. Eckhouse                     disclaims beneficial
ownership of these shares as well.
|--- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(3) | Lintech
International Inc. is wholly owned by a trust that was created for the
                    benefit of the issue of Beryl Levey. In June 2005, Lintech
International Inc.                     informed us that it sold all or substantially all
of its shares in Syneron.
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(4) | Dr.
Hadar Ron, who was one of our directors until May 2005, is the Managing
                    Director of Israel Healthcare Ventures, Ltd., which is the general
partner of                     Israel HealthCare Ventures LP. Dr. Hadar Ron disclaims
beneficial ownership of                     the shares held of record by Israel
HealthCare Ventures L.P. Israel HealthCare                     Ventures LP informed us
that it sold all or substantially all of its holdings in                     June 2005.
|--- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

To
our knowledge, the only significant changes in the percentage ownership by our major
shareholders during the past three years have been the dilution in their percentage
ownership as a result of our initial public offering in 2004, sales by major shareholders
in our underwritten secondary offering in March, 2005, and purchases by Sprott Asset
Management Inc. in the public market subsequent to our underwritten secondary offering.

To
our knowledge, as of March 31, 2005, we had 9* stockholders of record who were registered
with addresses in the United States. These United States holders were as of such date, the
holders of record of approximately 55.2%* of our outstanding shares.

| | ________________________________
         * Includes the Depository Trust Company
| | ---------------------------------------------------------------------------------

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

# Officers and Directors

In
November 2003, we granted Marshall Butler options to purchase 50,000 Series A preferred
shares at a purchase price of $3.00 per share, exercisable until February 28, 2004. In
February 2004, Marshall Butler exercised options to purchase 50,000 Series A Preferred
shares in full, which were converted into ordinary shares on a 3.4 for one basis upon the
closing of our initial public offering (which equals 170,000 ordinary shares). Marshall
Butler is one of our board members. In November 2003, we also granted Marshall Butler
options to purchase up to 136,000 ordinary shares at an exercise price of $0.14 per share.

# Registration Rights

Our
underwritten secondary offering of March 2005 covered 4,701,424 of the 13,422,649 ordinary
shares held by holders entitled to registration rights. In the event we propose to
register any of our securities under the Securities Act, either for our own account or for
the account of other security holders, these holders are entitled to notice of such
registration and are entitled to include their remaining ordinary shares in such
registration, subject to certain marketing cutbacks and other limitations. After our
underwritten secondary offering of March 2005, the holders of at least 50% of these
securities will have the right to require us, on not more than one occasion, to file a
registration statement on the appropriate form under the Securities Act in order to
register the resale of their ordinary shares. We may, in certain circumstances, defer such
registration and the underwriters have the right, subject to certain limitations, to limit
the number of shares included in such registrations. Further, these holders may require us
to register the resale of all or a portion of their shares on Form F-3, subject to
conditions and limitations.

53

---

---

|C. | INTERESTS
OF EXPERTS AND COUNSEL
|-- | --------------------------------

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

|ITEM 8. |  | FINANCIAL
INFORMATION
|------- |  | ---------------------

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

Our
audited consolidated financial statements for the year ended December 31, 2004 are
included in this annual report under Item 18.

| | Legal
Proceedings.
| | ------------------

On
July 23, 2004, Thermage, Inc. sued us in the United States District Court for the Northern
District of California, for patent infringement, seeking an injunction against infringing
their patent rights and unspecified damages. A preliminary injunction sought by Thermage
against the sale of our Polaris WR wrinkle treatment device in the United States was
denied. Thermage subsequently amended its complaint to include claims of infringement of
five additional patents. We have denied Thermages allegations and have filed a
counterclaim for injunctive relief and damages, alleging that Thermage is infringing a
patent we acquired in 2004. In June 2005, we reached an agreement with Thermage which
settled both parties claims against each other. Under this agreement each party
grants the other a non-exclusive paid-up license under the patents in suit and related
patents. Legal fees and our settlement costs in connection with our settlement with
Thermage amounted to $2.2 million. The license granted to Thermage excludes the right to
utilize our ELOS technology and the license granted to us excludes the right to utilize
Thermages monopolar RF and capacitive electrical coupling. Both parties admitted
validity of all patents in the litigation, but neither admitted any wrongdoing or
liability.

On
July 29, 2004, Shladot Metal Works, a privately owned Israeli company, sued us and Dr.
Eckhouse in a Haifa, Israel court, claiming that in 1999 Dr. Eckhouse had access to
confidential material regarding an Israeli patent, which he allegedly used in violation of
a confidentiality agreement in connection with forming Syneron. The complaint alleges that
our products infringe Shladots Israeli patent and seeks damages in the amount of NIS
10 million (approximately US $2.3 million), an injunction and an order that Dr. Eckhouse
transfer his Syneron ordinary shares to Shladot. On October 10, 2004, we filed a
counterclaim for damages against Shladot, its chairman Mr. Arye Fridenson, and Dr. Rachel
Lubart. Dr. Eckhouse and we believe that we both have meritorious defenses to the Shladot
suit and intend to defend it vigorously. We also believe we have a meritorious
counterclaim against Shladot, its chairman Mr. Arye Fridenson and Dr. Rachel Lubart.

Please
also see Item 3.D Risk Factors  Existing and Future third-party claims of
infringement or other claims against us could require us to redesign our products, seek
licenses, or engage in future costly intellectual property litigation, which could impact
our future business and financial performance.

| | Policy
on Dividend Distribution
| | -------------------------------

We
have never declared or paid cash dividends to our shareholders and we do not intend to pay
cash dividends in the foreseeable future. We intend to reinvest any future earnings in
developing and expanding our business. We have decided to reinvest the amount of
tax-exempt income derived from out Approved Enterprise status and not to
distribute that income as dividends.

54

---

---

|B. | SIGNIFICANT
CHANGES
|-- | -------------------

Except
for the exercise of options to purchase 1,264,174 ordinary shares by certain selling
shareholders under our March 2005 underwritten secondary public offering, no significant
change in the number of shares outstanding has occurred since the date of the annual
financial statements included elsewhere in this report.

|ITEM 9. |  | THE OFFER AND LISTING
|------- |  | ---------------------

|A. | OFFER
AND LISTING DETAILS
|-- | -------------------------

Our
ordinary shares are quoted on the Nasdaq National Market under the symbol
ELOS.

The
following table sets forth, for the periods indicated, the high and low sales prices of
our ordinary shares as reported by the Nasdaq National Market.

|                                                 | PRICE PERORDINARY SHARE(USD)(NASDAQ)
|------------------------------------------------ | ------------------------------------
|
|
|
|
|During the last year:                            |                                     
|2004 (beginning with August 9, 2004)             |                                     
|                                                 |                                     
|During the last six months:                      |                                     
|December 2004                                    |                                     
|January 2005                                     |                                     
|February 2005                                    |                                     
|March 2005                                       |                                     
|April 2005                                       |                                     
|May 2005                                         |                                     
|                                                 |                                     
|During each fiscal quarter of 2004 and 2005:     |                                     
|                                                 |                                     
|Third Quarter 2004 (beginning with August, 2004) |                                     
|Fourth Quarter 2004                              |                                     
|First Quarter 2005                               |                                     

|B. | PLAN
OF DISTRIBUTION
|-- | --------------------

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

|C. | MARKETS
|-- | -------

| | Our
ordinary shares are quoted on the Nasdaq National Market under the symbol ELOS.
| | -------------------------------------------------------------------------------------

|D. | SELLING
SHAREHOLDERS
|-- | --------------------

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

|E. | DILUTION
|-- | --------

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

55

---

---

|F. | EXPENSES
OF THE ISSUE
|-- | ---------------------

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

|ITEM 10. |  | ADDITIONAL INFORMATION
|-------- |  | ----------------------

|A. | SHARE
CAPITAL
|-- | -------------

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

|B. | MEMORANDUM
AND ARTICLES OF ASSOCIATION
|-- | --------------------------------------

# Register Number and
Purposes of the Company

Our
registration number with the Israeli Companies Registrar is 51-298651-4. Pursuant to
Section 4 of our Articles of Association we may engage in any type of lawful business as
may be determined by our board of directors from time to time.

# Dividend and Liquidation
Rights

Holders
of our ordinary shares are entitled to their proportionate share of any cash dividend,
share dividend or dividend in kind declared with respect to our ordinary shares. We may
declare dividends out of profits legally available for distribution. Under the Companies
Law, a company may distribute a dividend only if the distribution does not create a
reasonably foreseeable risk that the company will be unable to meet its existing and
anticipated obligations as they become due. A company may only distribute a dividend out
of the companys profits, as defined under the Companies Law. If the company does not
meet the profit requirement, a court may allow it to distribute a dividend, as long as the
court is convinced that there is no reasonable risk that a distribution might prevent the
company from being able to meet its existing and anticipated obligations as they become
due.

Under
the Companies Law, the declaration of a dividend does not require the approval of the
shareholders of a company unless the companys articles of association provide
otherwise. Our articles of association provide that the board of directors may declare and
distribute dividends without the approval of the shareholders. In the event of our
liquidation, holders of our ordinary shares have the right to share ratably in any assets
remaining after payment of liabilities, in proportion to the paid-up par value of their
respective holdings.

These
rights may be affected by the grant of preferential liquidation or dividend rights to the
holders of a class of shares that may be authorized in the future.

# Voting, Shareholder
Meetings and Resolutions

Holders
of ordinary shares have one vote for each ordinary share held on all matters submitted to
a vote of shareholders. This right may be changed if shares with special voting rights are
authorized in the future.

Under
the Companies Law, an annual general meeting of our shareholders should be held once every
calendar year, but no later than 15 months from the date of the previous annual general
meeting. The quorum required for a general meeting of shareholders consists of at least
two shareholders present in person or by proxy holding at least 40.0% of the voting power.
A meeting adjourned for lack of a quorum generally is adjourned to the same day in the
following week at the same time and place or any time and place as the directors designate
in a notice to the shareholders. At the reconvened meeting, the required quorum consists
of any number of shareholders present in person or by proxy.

56

---

---

Our
board of directors may, in its discretion, convene additional meetings as special
general meetings. In addition, the board must convene a special general meeting upon
the demand of two of the directors, one fourth of the nominated directors, one or more
shareholders having at least 5% of outstanding share capital and at least 1% of the voting
power in the company, or one or more shareholders having at least 5% of the voting power
in the company. The chairman of the board of directors presides at each of our general
meetings. The chairman of the board of directors is not entitled to a vote at a general
meeting in his capacity as chairman.

Most
shareholders resolutions, including resolutions to:

| |  | amend
our articles of association (except for amendments relating to the election of directors
and the powers, composition and size of the board of directors);
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | make
changes in our capital structure such as a reduction of capital, increase of capital or
share split, merger or consolidation;
| | - | ----------------------------------------------------------------------------------------------------------------------------------

| |  | authorize
a new class of shares, elect directors, other than external directors;
| | - | --------------------------------------------------------------------------------

| |  | appoint
auditors; or
| | - | --------------------

| |  | approve
transactions with certain office holders;
| | - | -------------------------------------------------

will be deemed adopted if approved by
the holders of a majority of the voting power represented at a shareholders meeting,
in person or by proxy, and voting on that resolution. In most cases these actions will not
require the approval of a special majority.

# Ownership of Shares;
Transfer of Shares; Notices

Our
articles of association and the laws of the State of Israel do not restrict the ownership
or voting of ordinary shares by non-residents of Israel, except with respect to
individuals and entities that are residents of countries in a state of war with Israel,
and except with respect to entities which are controlled by residents of countries in a
state of war with Israel.

Our
fully paid ordinary shares are issued in registered form and are freely transferable under
our articles of association.

Under
the Companies Law, shareholders meetings require prior notice of at least 21 days.

# Modification of Class
Rights

The
Companies Law provides that the rights of a particular class of shares may not be modified
without the vote of a majority of the affected class.

# Election of Directors

Our
ordinary shares do not have cumulative voting rights in the election of directors.
Therefore, the holders of ordinary shares representing more than 50% of the voting power
at the general meeting of the shareholders, in person or by proxy, have the power to elect
all of the directors whose positions are being filled at that meeting, to the exclusion of
the remaining shareholders. External directors are elected by a majority vote at a
shareholders meeting, provided that either:

| |  | 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
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------

| |  | 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 in the
company.
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

See
Item 6.C Board Practices regarding our staggered board.

57

---

---

# Anti-Takeover
Provisions; Mergers and Acquisitions

Merger.The
Companies Law permits merger transactions with the approval of each partys board of
directors and shareholders. In accordance with the Companies Law, a merger may be approved
at a shareholders meeting by a majority of the voting power represented at the meeting, in
person or by proxy, and voting on that resolution. In determining whether the required
majority has approved the merger, shares held by the other party to the merger, any person
holding at least 25% of the outstanding voting shares or means of appointing the board of
directors of the other party to the merger, or the relatives or companies controlled by
these persons, are excluded from the vote.

Under
the Companies Law, a merging company must inform its creditors of the proposed merger. Any
creditor of a party to the merger may seek a court order blocking the merger, if there is
a reasonable concern that the surviving company will not be able to satisfy all of the
obligations of the parties to the merger. Moreover, a merger may not be completed until at
least 30 days have passed from the time that the shareholders of each company approved the
merger proposal and 50 days have passed from the time that a merger proposal was filed
with the Israeli Registrar of Companies.

Tender
Offer.The Companies Law requires a purchaser to conduct a tender offer in order
to purchase shares in publicly held companies, if as a result of the purchase the
purchaser would hold more than 25% of the voting rights of a company in which no other
shareholder holds more than 25% of the voting rights, or the purchaser would hold more
than 45% of the voting rights of a company in which no other shareholder holds more than
50% of the voting rights.

Under
the Companies Law, a person may not purchase shares of a public company if, following the
purchase of shares, the purchaser would hold more than 90% of the companys shares or
of any class of shares unless the purchaser makes a tender offer to purchase all of the
target companys shares or all the shares of the particular class, as applicable. If,
as a result of the tender offer, the purchaser would hold more than 95% of the
companys shares or a particular class of shares, the ownership of the remaining
shares will be transferred to the purchaser. However, if the purchaser is unable to
purchase 95% or more of the companys shares or class of shares, the purchaser may
not own more than 90% of the shares or class of shares of the target company.

Tax
Law.Israeli tax law treats some acquisitions, such as a stock-for-stock swap
between an Israeli company and a foreign company, less favorably than U.S. tax law. For
example, Israeli tax law may subject a shareholder who exchanges his ordinary shares for
shares in a foreign corporation to immediate taxation. Please see Item 10.E 
Taxation  Israeli Taxation.

# Transfer Agent and
Registrar

American
Stock Transfer & Trust Company is the transfer agent and registrar for our ordinary
shares.

# Listing

Our
ordinary shares are quoted on the Nasdaq National Market under the symbol
ELOS.

# Approval of Related
Party Transactions under Israeli Law

# Office Holders

The
Companies Law codifies the fiduciary duties that office holders owe to a company. An
office holder is defined as any director, managing director, general manager, chief
executive officer, executive vice president, vice president, other manager directly
subordinate to the general manager or any other person assuming the responsibilities of
any of these positions regardless of that persons title. Each person listed in the
table under Management  Executive Officers and Directors is an office
holder under the Companies Law.

58

---

---

Fiduciary
duties.An office holders fiduciary duties consist of a duty of loyalty and
a duty of care. The duty of loyalty requires the office holder to avoid any conflict of
interest between the office holders position in the company and personal affairs,
and proscribes any competition with the company or the exploitation of any business
opportunity of the company in order to receive personal advantage for himself or others.
This duty also requires him or her to reveal to the company any information or documents
relating to the companys affairs that the office holder has received due to his or
her position as an office holder. The duty of care requires an office holder to act with a
level of care that a reasonable office holder in the same position would employ under the
same circumstances. This includes the duty to use reasonable means to obtain information
regarding the advisability of a given action submitted for his or her approval or
performed by virtue of his or her position and all other relevant information pertaining
to these actions.

Compensation.Under
the Companies Law, all compensation arrangements for office holders who are not directors
require approval of the board of directors, unless the articles of association provide
otherwise. Our compensation committee is required to approve the compensation of all
office holders. Arrangements regarding the compensation of directors require audit
committee, board and shareholder approval.

Disclosure
of personal interest.The Companies Law requires that an office holder promptly
disclose to the company any personal interest that he or she may have and all related
material information known to him or her, in connection with any existing or proposed
transaction by the company. Personal interest, as defined by the Companies
Law, includes a personal interest of any person in an act or transaction of the company,
including a personal interest of his relative or of a corporate body in which that person
or a relative of that person is a 5% or greater shareholder, a holder of 5% or more of the
voting rights, a director or general manager, or in which he or she has the right to
appoint at least one director or the general manager. Personal interest does
not apply to a personal interest stemming merely from the fact of that the office holder
is also a shareholder in the company.

The
office holder must make the disclosure of his personal interest no later than the first
meeting of the companys board of directors that discusses the particular
transaction. This duty does not apply to the personal interest of a relative of the office
holder in a transaction unless it is an extraordinary transaction. The
Companies Law defines an extraordinary transaction as a transaction not in the ordinary
course of business, not on market terms or that is likely to have a material impact on the
companys profitability, assets or liabilities, and defines a relative as a spouse,
sibling, parent, grandparent, descendent, spouses descendant and the spouse of any
of the foregoing.

Approvals.The
Companies Law provides that a transaction with an office holder or a transaction in which
an office holder has a personal interest may not be approved if it is adverse to the
companys interest. In addition, such a transaction generally requires board
approval, unless the transaction is an extraordinary transaction or the articles of
association provide otherwise. If the transaction is an extraordinary transaction, or if
it concerns exculpation, indemnification or insurance of an office holder, then in
addition to any approval stipulated by the articles of association, approval of the
companys audit committee and the board of directors is required. Exculpation,
indemnification, insurance or compensation of a director also would require shareholder
approval. A director who has a personal interest in a matter that is considered at a
meeting of the board of directors or the audit committee may not attend that meeting or
vote on that matter, unless a majority of the board of directors or the audit committee
also has a personal interest in the matter. If a majority of the board of directors or the
audit committee has a personal interest in the transaction, shareholder approval also
would be required.

# Shareholders

The
Companies Law imposes the same disclosure requirements, as described above, on a
controlling shareholder of a public company that it imposes on an office holder. For these
purposes, a controlling shareholder is any shareholder that has the ability to direct the
companys actions, including any shareholder holding 25% or more of the voting rights
if no other shareholder owns more than 50% of the voting rights in the company. Two or
more shareholders with a personal interest in the approval of the same transaction are
deemed to be one shareholder.

59

---

---

Approval
of the audit committee, the board of directors and our shareholders is required for:

| |  | extraordinary
transactions with a controlling shareholder or in which a controlling shareholder has a
personal interest; and
| | - | ----------------------------------------------------------------------------------------------------------------------------

| |  | employment
of a controlling shareholder.
| | - | ----------------------------------------

The
shareholder approval must include the majority of shares voted at the meeting. In
addition, either:

| |  | the
majority must include at least one-third of the shares of the voting shareholders who
have no personal interest in the transaction; or
| | - | ------------------------------------------------------------------------------------------------------------------------------------------

| |  | the
total shareholdings of those who have no personal interest in the transaction and who
vote against the transaction must not represent more than 1% of the aggregate voting
rights in the company.
| | - | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

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

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

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

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

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

A
shareholder has a general duty to refrain from depriving any other shareholder of their
rights as a shareholder. In addition, any controlling shareholder, any shareholder who
knows that it possesses the power to determine the outcome of a shareholder vote and any
shareholder who has the power to appoint or prevent the appointment of an office holder in
the company is under a duty to act with fairness towards the company. The Companies Law
does not describe the substance of this duty of fairness.

# Exculpation,
Indemnification and Insurance of Directors and Officers

Our
articles of association allow us to indemnify, exculpate and insure our office holders to
the fullest extent permitted by the Companies Law, provided that procuring this insurance
or providing this indemnification or exculpation is approved by the audit committee and
the board of directors, as well as by the shareholders where the office holder is a
director. Our articles of association also allow us to insure or indemnify any person who
is not an office holder, including any employee, agent, consultant or contractor who is
not an office holder.

Under
the Companies Law, a company may indemnify an office holder in respect of some
liabilities, either in advance of an event or following an event. If a company undertakes
to indemnify an office holder in advance of an event, the indemnification must be limited
to foreseeable types of events and reasonable amounts, as determined by the board of
directors.

60

---

---

Under
the Companies Law, a company may indemnify an office holder against any monetary liability
incurred in his or her capacity as an office holder whether imposed on him or her in favor
of another person pursuant to a judgment, a settlement or an arbitrators award
approved by a court. A company also can indemnify an office holder against reasonable
litigation expenses including attorneys fees, incurred by him or her in his or her
capacity as an office holder, in proceedings instituted against him or her by the company,
on its behalf or by a third-party, in connection with criminal proceedings in which the
office holder was acquitted, or as a result of a conviction for a crime that does not
require proof of criminal intent.

Under
the Companies Law, a company may obtain insurance for an office holder against liabilities
incurred in his or her capacity as an office holder. These liabilities include a breach of
duty of care to the company or a third-party, a breach of duty of loyalty and any monetary
liability imposed on the office holder in favor of a third-party.

A
company may exculpate an office holder for a breach of duty of care, but only in advance
of that breach. A company may not exculpate an office holder from a breach of duty of
loyalty towards the company.

Under
the Companies Law, however, an Israeli company may only indemnify or insure an office
holder against a breach of duty of loyalty to the extent that the office holder acted in
good faith and had reasonable grounds to assume that the action would not prejudice the
company. In addition, an Israeli company may not indemnify, insure or exculpate an office
holder against a breach of duty of care if committed intentionally or recklessly, or
committed with the intent to derive an unlawful personal gain, or for a fine or forfeit
levied against the office holder in connection with a criminal offense.

Our
audit committee, board of directors and shareholders have resolved to indemnify our
directors and officers to the extent permitted by law and by our articles of association
for liabilities not covered by insurance and that are of certain enumerated types of
events, subject to an aggregate sum equal to 50.0% of the shareholders equity outstanding
at the time a claim for indemnification is made.

|C. | MATERIAL
CONTRACTS
|-- | ------------------

For
a description of the material terms of our Patent License and Settlement Agreement with
Lumenis Inc. and Lumenis Ltd., and of our Patent License and Settlement Agreement with
Thermage, Inc., please see Item 4.B Business Overview  Intellectual
Property.

For
a short description of the material terms of our agreements with our manufacturers, please
see Item 4.B Business Overview  Manufacturing.

|D. | EXCHANGE
CONTROLS
|-- | -----------------

Non-residents
of Israel who hold our ordinary shares are able to receive any dividends, and any amounts
payable upon the dissolution, liquidation and winding up of our affairs, freely
repatriable in non-Israeli currency at the rate of exchange prevailing at the time of
conversion. However, Israeli income tax is required to have been paid or withheld on these
amounts. In addition, the statutory framework for the potential imposition of exchange
controls has not been eliminated, and may be restored at any time by administrative
action.

|E. | TAXATION
|-- | --------

The
following is a general summary only and should not be considered as income tax advice or
relied upon for tax planning purposes.

# ISRAELI TAXATION

The
following is a summary of the material Israeli tax laws applicable to us, and some Israeli
Government programs benefiting us. This section also contains a discussion of some Israeli
tax consequences to persons owning our ordinary shares. This summary does not discuss all
the acts of Israeli tax law that may be relevant to a particular investor in light of his
or her personal investment circumstances or to some types of investors subject to special
treatment under Israeli law. Examples of this kind of investor include residents of
Israel, traders in securities or persons that own, directly or indirectly, 10% or more of
our outstanding voting capital, all of whom are subject to special tax regimes not covered
in this discussion. Some parts of this discussion are based on new tax legislation which
has not been subject to judicial or administrative interpretation. The discussion should
not be construed as legal or professional tax advice and does not cover all possible tax
considerations.

61

---

---

Potential
investors are urged to consult their own tax advisors as to the Israeli or other tax
consequences of the purchase, ownership and disposition of our ordinary shares, including,
in particular, the effect of any foreign, state or local taxes.

# General Corporate Tax
Structure in Israel

Israeli
companies are generally subject to corporate tax on their taxable income at a rate that is
34% for the 2005 tax year. This rate was 35% in the 2004 tax year and will be 32% (in the
2006 tax year) and 30% (in and after the 2007 tax year). However, as discussed below, the
rate is effectively reduced for income derived from an Approved Enterprise.

# Special Provisions
Relating to Taxation under Inflationary Conditions

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

| |  | 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.
| | - | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | 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.
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | 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.
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | Real
gains, excluding inflationary gains, on traded securities held by companies that are not
dealers in securities are taxable under the law, subject to rules that were modified as
of January 1, 1999.
| | - | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

# Law for the
Encouragement of Capital Investments, 1959

The
Law for Encouragement of Capital Investments, 1959 (the Investment Law)
provides that capital investments in a production facility (or other eligible assets) may,
upon approval by the Investment Center of the Israel Ministry of Industry and Trade (the
Investment Center), be designated as an Approved Enterprise. Each certificate
of approval for an Approved Enterprise relates to a specific investment program,
delineated both by the financial scope of the investment and by the physical
characteristics of the facility or the asset. The tax benefits from any certificate of
approval relate only to taxable profits attributable to the specific Approved Enterprise.

62

---

---

We
have two Approved Enterprise Programs under the Capital Investments Law, which entitles us
to tax benefits. The second program was approved on January 23, 2005. The Approved
Enterprise Programs granted to us are defined in the Capital Investments Law as
Alternative Benefits Programs, which allow for a ten year exemption for undistributed
income provided such ten year term falls within 14 years from the approval and 12 years
from commencement of operations. Undistributed income derived from our Approved Enterprise
is exempt from tax as stated above, commencing on the first year in which we generate
taxable income from the Approved Enterprise. If we distribute a dividend from income that
is tax exempt, we would have to pay 10% to 25% tax in respect of the amount distributed
depending on the level of foreign investment in our company.

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

The
benefits available to an Approved Enterprise are conditioned upon terms stipulated in the
Investment Law and the regulations thereunder and the criteria set forth in the applicable
certificate of approval. If we do not fulfill these conditions in whole or in part, the
benefits can be canceled and we may be required to refund the amount of the benefits, with
the addition of the Israeli consumer price index linkage differences and interest. We
believe that our Approved Enterprises operate in compliance with all applicable conditions
and criteria, but there can be no assurance that they will continue to do so.

Income
derived from other sources, other than the Approved Enterprise during the
benefit period will be subject to tax at the regular corporate tax rate. This rate was 35%
in the 2004 tax year, is 34% in the 2005 tax year, and will be 32% (in the 2006 tax year)
and 30% (in and after the 2007 tax year).

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

We
believe that we qualify as an Industrial Company within the meaning of the Law
for the Encouragement of Industry (Taxes), 1969, or the Industry Encouragement Law. The
Industry Encouragement Law defines Industrial Company as a company resident in
Israel, of which 90% or more of its income in any tax year, other than of income from
defense 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.

The
following corporate tax benefits, among others, are available to Industrial Companies:

| |  | amortization
of the cost of purchased know-how and patents over an eight-year period for tax purposes;
| | - | ------------------------------------------------------------------------------------------------------

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

| |  | under
specified conditions, an election to file consolidated tax returns with additional
related Israeli Industrial Companies; and
| | - | ----------------------------------------------------------------------------------------------------------------------------------

| |  | expenses
related to a public offering are deductible in equal amounts over three years.
| | - | ---------------------------------------------------------------------------------------

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

# Taxation of Non-Israeli
Shareholders on Receipt of Dividends

Nonresidents
of Israel are generally subject to Israeli income tax on the receipt of dividends paid on
the ordinary shares at the rate of 25% (15% on dividends paid from income derived from our
Approved Enterprise), which tax will be withheld at source. Under the U.S.-Israel Tax
Treaty, the maximum tax on dividends paid to a holder of the ordinary shares who is a U.S.
resident is 25%, regardless of whether the underlying income is derived from an Approved
Enterprise.

63

---

---

# 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 was
introduced according to which an Israeli company may become subject to Israel taxes on
certain income of a non-Israeli subsidiary if the subsidiarys primary source of
income is passive income (such as interest, dividends, royalties, rental income or capital
gains). The tax reform also substantially changed the system of taxation of capital gains.
The adoption of the tax reform did not have a material impact on us.

# Capital Gains Taxes
Applicable to Israeli Resident and Non-Israeli Resident Shareholders.

Israeli
law generally imposes a capital gains tax on the sale of capital assets located in Israel,
including shares in Israeli resident companies, by both residents and non-residents of
Israel, unless specific exemption is available or unless a treaty between Israel and the
country of the non-resident provides otherwise.

As
mentioned above, on January 1, 2003 the Law for Amendment of the Income Tax Ordinance,
known as the tax reform, came into effect thus imposing capital gains tax at a rate 15% on
gains derived from the sale of shares in Israeli companies publicly traded on a recognized
stock exchange outside of Israel, provided that the selling individual or entity did not
apply for deduction of interest expenses and linkage differential with respect to the
securities sold and provided further that the sale is not made to a related party of the
seller. This tax rate does not apply to (1) dealers in securities; (2) shareholders that
report in accordance with the Income Tax Law (Inflationary Adjustment)  1985; or (3)
shareholders who acquired their shares prior to an initial public offering. Non-Israeli
residents will be exempt from Israeli capital gains tax on any gains derived from the sale
of shares publicly traded on the Nasdaq National Market provided such shareholders did not
acquire their shares prior to an initial public offering and do not have a permanent
establishment in Israel. Notwithstanding the foregoing, dealers in securities in Israel
are taxed at regular tax rates applicable to business income.

In
addition, pursuant to the Convention Between the Governments of the United States and
Israel with respect to Taxes of Income, as amended, or the United States-Israel Tax
Treaty, the sale exchange or disposition of ordinary shares by a person who qualifies as a
resident of the U.S. within the meaning of the United States-Israel Tax Treaty and who is
entitled to claim the benefits afforded to such person by the United States-Israel Tax
Treaty, or a Treaty U.S. Resident, generally will not be subject to the Israeli capital
gains tax unless 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. A sale,
exchange or disposition or ordinary shares by a Treaty U.S. Resident who holds, directly
or indirectly, shares representing 10% or more of our voting power at any time during such
preceding 12-month period would be subject to such Israeli tax, to the extent applicable.

# Taxation of Non-Resident
Shareholders

Non-residents
of Israel are subject to Israeli income tax on income accrued or derived from sources in
Israel, including passive income such as dividends, income tax at the rate of 25% (12.5%
for dividends not generated by an approved enterprise if the non-resident is a U.S.
corporation and holds 10% or more of our voting power throughout a certain period, and 15%
for dividends generated by an approved enterprise) is withheld at the source, unless a
different rate is provided in a treaty between Israel and the shareholders country
of residence. Under the United States-Israel Tax Treaty, the maximum tax on dividends paid
to a holder of ordinary shares who is a Treaty U.S. Resident will be 25%, however, under
the Investment Law, dividends generated by an approved enterprise are taxed at the rate of
15%.

Under
a recent amendment to the Inflationary Adjustments Law, non-Israeli corporations might be
subject to Israeli taxes on the sale of traded securities in an Israeli company, subject
to the provisions of any applicable double taxation treaty.

64

---

---

# Foreign Exchange
Regulations

Non-residents
of Israel who hold our ordinary shares are able to receive any dividends, and any amounts
payable upon the dissolution, liquidation and winding up of our affairs, freely
repatriable in non-Israeli currency at the rate of exchange prevailing at the time of
conversion. However, Israeli income tax is required to have been paid or withheld on these
amounts. In addition, the statutory framework for the potential imposition of exchange
controls has not been eliminated, and may be restored at any time by administrative
action.

# UNITED STATES FEDERAL
INCOME TAX CONSIDERATIONS

The
following discussion is a description of the material U.S. federal income tax
considerations applicable to an investment in the ordinary shares by U.S. Holders who hold
the ordinary shares as capital assets for U.S. federal income tax purposes. As used in
this section, the term U.S. Holder means a beneficial owner of an ordinary
share who is:

| |  | citizen
or resident of the United States;
| | - | -----------------------------------------

| |  | a
corporation or partnership created or organized in or under the laws of the United States
or of any state of the United States or the District of Columbia (other than a
partnership that is not treated as a United States person under any applicable Treasury
regulations);
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| |  | an
estate, the income of which is subject to U.S. federal income taxation regardless of its
source; or
| | - | ------------------------------------------------------------------------------------------------------

| |  | a
trust if the trust has elected validly to be treated as a United States person for U.S.
federal income tax purposes or if a U.S. court is able to exercise primary supervision
over the trusts administration and one or more United States persons have the
authority to control all of the trusts substantial decisions.
| | - | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

The
term Non-U.S. Holder means a beneficial owner of an ordinary share who is not
a U.S. Holder. The tax consequences to a Non-U.S. Holder may differ substantially from the
tax consequences to a U.S. Holder. Certain aspects of U.S. federal income tax relevant to
a Non-U.S. Holder also are discussed below.

This
description is based on provisions of the U.S. Internal Revenue Code of 1986, as amended,
referred to in this discussion as the Code, existing and proposed U.S. Treasury
regulations and administrative and judicial interpretations, each as available and in
effect as of March 31, 2005. These sources may change, possibly with retroactive effect,
and are open to differing interpretations. This description does not discuss all aspects
of U.S. federal income taxation that may be applicable to investors in light of their
particular circumstances or to investors who are subject to special treatment under U.S.
federal income tax law, including:

| |  | insurance
companies;
| | - | --------------------

| |  | dealers
in stocks, securities or currencies;
| | - | --------------------------------------------

| |  | financial
institutions and financial services entities;
| | - | -------------------------------------------------------

| |  | real
estate investment trusts;
| | - | ------------------------------

| |  | regulated
investment companies;
| | - | -------------------------------

65

---

---

| |  | persons
that receive ordinary shares as compensation for the performance of services;
| | - | -------------------------------------------------------------------------------------

| |  | tax-exempt
organizations;
| | - | -------------------------

| |  | persons
that hold ordinary shares as a position in a straddle or as part of a hedging, conversion
or other integrated instrument;
| | - | ---------------------------------------------------------------------------------------------------------------------------------

| |  | individual
retirement and other tax-deferred accounts;
| | - | ------------------------------------------------------

| |  | expatriates of the United States;
| | - | ---------------------------------

| |  | persons
having a functional currency other than the U.S. dollar; and
| | - | --------------------------------------------------------------------

| |  | direct,
indirect or constructive owners of 10% or more, by voting power or value, of us.
| | - | ----------------------------------------------------------------------------------------

This
discussion also does not consider the tax treatment of persons or partnerships who hold
ordinary shares through a partnership or other pass-through entity or the possible
application of United States federal gift or estate tax or alternative minimum tax.

We
urge you to consult with your own tax advisor regarding the tax consequences of investing
in the ordinary shares, including the effects of federal, state, local, foreign and other
tax laws.

# Distributions Paid on
the Ordinary Shares

We
have never paid cash dividends and we do not intend to pay cash dividends in the
foreseeable future. Subject to the discussion below under Passive Foreign Investment
Company Considerations, a U.S. Holder generally will be required to include in gross
income as ordinary dividend income the amount of any distributions paid on the ordinary
shares, including the amount of any Israeli taxes withheld, to the extent that those
distributions are paid out of our current or accumulated earnings and profits as
determined for U.S. federal income tax purposes. Subject to the discussion below under
Passive Foreign Investment Company Considerations, distributions in excess of
our earnings and profits will be applied against and will reduce the U.S. Holders
tax basis in its ordinary shares and, to the extent they exceed that tax basis, will be
treated as gain from a sale or exchange of those ordinary shares. Our dividends will not
qualify for the dividends-received deduction applicable in some cases to U.S.
corporations. Dividends paid in NIS, including the amount of any Israeli taxes withheld,
will be includible in the income of a U.S. Holder in a U.S. dollar amount calculated by
reference to the exchange rate in effect on the day they are received by the U.S. Holder.
Any gain or loss resulting from currency exchange fluctuations during the period from the
date the dividend is includible in the income of the U.S. Holder to the date that payment
is converted into U.S. dollars generally will be treated as ordinary income or loss.

A
non-corporate U.S. holders qualified dividend income is subject to tax
at reduced rates not exceeding 15%. For purposes of determining whether U.S. holders will
have qualified dividend income, qualified dividend income
generally includes dividends paid by a foreign corporation if either:

| | (a) | the
stock of that corporation with respect to which the dividends are paid is
               readily tradable on an established securities market in the U.S., or
| | --- | -----------------------------------------------------------------------------------------------------------------------------------------------------------------

| | (b) | that
corporation is eligible for benefits of a comprehensive income tax treaty
               with the U.S. which includes an information exchange program and is
determined                to be satisfactory by the U.S. Secretary of the Treasury. The
Internal Revenue                Service has determined that the U.S.-Israel Tax Treaty is
satisfactory for this                purpose.
| | --- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

In
addition, under current law a U.S. holder must generally hold his ordinary shares for more
than 60 days during the 120 day period beginning 60 days prior to the ex-dividend date.

66

---

---

Dividends
paid by a foreign corporation will not qualify for the reduced rates, however, if such
corporation is treated, for the tax year in which the dividend is paid or the preceding
tax year, as a foreign investment company or a passive foreign
investment company for U.S. federal income tax purposes. We do not believe that we
will be classified as a foreign investment company or a passive foreign
investment company for U.S. federal income tax purposes for our current taxable
year. However, see the discussion under  Passive Foreign Investment Company
Considerations below. The reduced rate applicable to dividend distributions does not
apply to tax years beginning after December 31, 2008.

Subject
to the discussion below under Information Reporting and Back-up Withholding, a
Non-U.S. Holder generally will not be subject to U.S. federal income or withholding tax on
dividends received on ordinary shares unless that income is effectively connected with the
conduct by that Non-U.S. Holder of a trade or business in the United States.

# Foreign Tax Credit

Any
dividend income resulting from distributions we pay to a U.S. Holder with respect to the
ordinary shares generally will be treated as foreign source income for U.S. foreign tax
credit purposes, which may be relevant in calculating such holders foreign tax
credit limitation. Subject to certain conditions and limitations, Israeli tax withheld on
dividends may be deducted from taxable income or credited against a U.S. Holders
U.S. federal income tax liability. The limitation on foreign taxes eligible for credit is
calculated separately with respect to specific classes of income. The rules relating to
the determination of foreign source income and the foreign tax credit are complex, and the
availability of a foreign tax credit depends on numerous factors. Each prospective
purchaser who would be a U.S. Holder should consult with its own tax advisor to determine
whether its income with respect to the ordinary shares would be foreign source income and
whether and to what extent that purchaser would be entitled to the credit.

# Disposition of Ordinary
Shares

Upon
the sale or other disposition of ordinary shares, subject to the discussion below under
Passive Foreign Investment Company Considerations, a U.S. Holder generally
will recognize capital gain or loss equal to the difference between the amount realized on
the disposition and the holders adjusted tax basis in the ordinary shares. U.S.
Holders should consult their own advisors with respect to the tax consequences of the
receipt of a currency other than U.S. dollars upon such sale or other disposition.

In
the event there is an Israeli income tax on gain from the disposition of ordinary shares,
such tax should generally be the type of tax that is creditable for U.S. tax purposes;
however, because it is likely that the source of any such gain would be a U.S. source, a
U.S. foreign tax credit may not be available. U.S. shareholders should consult their own
tax advisors regarding the ability to claim such credit.

Gain
or loss upon the disposition of the ordinary shares will be treated as long-term if, at
the time of the sale or disposition, the ordinary shares were held for more than one year.
Long-term capital gains realized by non-corporate U.S. Holders are generally subject to a
lower marginal U.S. federal income tax rate than ordinary income, other than qualified
dividend income, as defined above. The deductibility of capital losses by a U.S. Holder is
subject to limitations. In general, any gain or loss recognized by a U.S. Holder on the
sale or other disposition of ordinary shares will be U.S. source income or loss for U.S.
foreign tax credit purposes. U.S. Holders should consult their own tax advisors concerning
the source of income for U.S. foreign tax credit purposes and the effect of the
U.S.-Israel Tax Treaty on the source of income.

67

---

---

Subject
to the discussion below under Information Reporting and Back-up Withholding, a
Non-U.S. Holder generally will not be subject to U.S. federal income or withholding tax on
any gain realized on the sale or exchange of ordinary shares unless:

| |  | that
gain is effectively connected with the conduct by the Non-U.S. Holder of a trade or
business in the United          States, or
| | - | -----------------------------------------------------------------------------------------------------------------------------------

| |  | in
the case of any gain realized by an individual Non-U.S. Holder, that holder is present in
the United States for 183 days or more in the taxable year of the sale or exchange, and
other conditions are met.
| | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

# Passive Foreign
Investment Company Considerations

Special
U.S. federal income tax rules apply to U.S. Holders owning shares of a passive foreign
investment company. A non-U.S. corporation will be considered a passive foreign investment
company for any taxable year in which, after applying look-through rules, 75% or more of
its gross income consists of specified types of passive income, or 50% or more of the
average value of its assets consists of passive assets, which generally means assets that
generate, or are held for the production of, passive income. Passive income may include
amounts derived by reason of the temporary investment of funds. If we were classified as a
passive foreign investment company, a U.S. Holder could be subject to increased tax
liability upon the sale or other disposition of ordinary shares or upon the receipt of
amounts treated as excess distributions. Under these rules, the excess
distribution and any gain would be allocated ratably over the U.S. Holders holding
period for the ordinary shares, and the amount allocated to the current taxable year and
any taxable year prior to the first taxable year in which we were a passive foreign
investment company would be taxed as ordinary income. The amount allocated to each of the
other taxable years would be subject to tax at the highest marginal rate in effect for the
applicable class of taxpayer for that year, and an interest charge for the deemed deferral
benefit would be imposed on the resulting tax allocated to such other taxable years. The
tax liability with respect to the amount allocated to years prior to the year of the
disposition, or excess distribution, cannot be offset by any net operating
losses. In addition, holders of stock in a passive foreign investment company may not
receive a step-up in basis on shares acquired from a decedent. U.S. Holders
who hold ordinary shares during a period when we are a passive foreign investment company
will be subject to the foregoing rules even if we cease to be a passive foreign investment
company.

We
believe that we are not a passive foreign investment company for U.S. federal income tax
purposes, but we cannot be certain whether we will be treated as a passive foreign
investment company for the current year or any future taxable year. Our belief that we
will not be a passive foreign investment company for the current year is based on our
estimate of the fair market value of our intangible assets, including goodwill, not
reflected in our financial statements under U.S. GAAP, and our projection of our income
for the current year. If the IRS successfully challenged our valuation of our intangible
assets, it could result in our classification as a passive foreign investment company.
Moreover, because passive foreign investment company status is based on our income and
assets for the entire taxable year, it is not possible to determine whether we will be a
passive foreign investment company for the current taxable year until after the close of
the year. In the future, in calculating the value of our intangible assets, we will value
our total assets, in part, based on our total market value determined using the average of
the selling price of our ordinary shares on the last trading day of each calendar quarter.
We believe this valuation approach is reasonable. While we intend to manage our business
so as to avoid passive foreign investment company status, to the extent consistent with
our other business goals, we cannot predict whether our business plans will allow us to
avoid passive foreign investment company status or whether our business plans will change
in a manner that affects our passive foreign investment company status determination. In
addition, because the market price of our ordinary shares is likely to fluctuate and the
market price of the shares of technology companies has been especially volatile, and
because that market price may affect the determination of whether we will be considered a
passive foreign investment company, we cannot assure that we will not be considered a
passive foreign investment company for any taxable year.

68

---

---

The
passive foreign investment company rules described above will not apply to a U.S. Holder
if the U.S. Holder makes an election to treat us as a qualified electing fund. However, a
U.S Holder may make a qualified electing fund election only if we furnish the U.S. Holder
with certain tax information. We currently do not provide this information, and we do not
intend to take actions necessary to permit you to make a qualified electing fund election
in the event we are determined to be a passive foreign investment company. As an
alternative to making this election, a U.S. Holder of passive foreign investment company
stock which is publicly traded may in certain circumstances avoid certain of the tax
consequences generally applicable to holders of a passive foreign investment company by
electing to mark the stock to market annually and 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 passive foreign investment company stock and the U.S.
Holders adjusted tax basis in the passive foreign investment company 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. This election is available for so
long as our ordinary shares constitute marketable stock, which includes stock
of a passive foreign investment company that is regularly traded on a
qualified exchange or other market. Generally, a qualified exchange or
other market includes a national market system established pursuant to Section 11A
of the Securities Exchange Act of 1934. A class of stock that is traded on one or more
qualified exchanges or other markets is regularly traded on an exchange or
market for any calendar year during which that class of stock is traded, other than in de
minimis quantities, on at least 15 days during each calendar quarter. We believe that the
Nasdaq National Market will constitute a qualified exchange or other market for this
purpose. However, no assurances can be provided that our ordinary shares will continue to
trade on the Nasdaq National Market or that the shares will be regularly traded for this
purpose.

The
rules applicable to owning shares of a passive foreign investment company are complex, and
each prospective purchaser who would be a U.S. Holder should consult with its own tax
advisor regarding the consequences of investing in a passive foreign investment company.

# Information Reporting
and Back-up Withholding

Holders
generally will be subject to information reporting requirements with respect to dividends
paid in the United States on ordinary shares. In addition, Holders will be subject to
back-up withholding tax on dividends paid in the United States on ordinary shares unless
the holder provides an IRS certification or otherwise establishes an exemption. Holders
will be subject to information reporting and back-up withholding tax on proceeds paid
within the United States from the disposition of ordinary shares unless the holder
provides an IRS certification or otherwise establishes an exemption. Information reporting
and back-up withholding may also apply to dividends and proceeds paid outside the United
States that are paid by certain U.S. payors or U.S. middlemen, as
defined in the applicable Treasury regulations, including:

| | (1) | U.S.
person;
| | --- | ------------

| | (2) | the
government of the U.S. or the government of any state or political
               subdivision of any state (or any agency or instrumentality of any of these
               governmental units);
| | --- | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | (3) | a
controlled foreign corporation;
| | --- | ---------------------------------

| | (4) | a
foreign partnership that is either engaged in a U.S. trade or business or
               whose Untied States partners in the aggregate hold more than 50% of the
income                or capital interests in the partnership;
| | --- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | (5) | a
foreign person that derives 50% or more of its gross income for certain
               periods from the conduct of a trade or business in the U.S.; or
| | --- | --------------------------------------------------------------------------------------------------------------------------------------------------------

| | (6) | a
U.S. branch of a foreign bank or insurance company.
| | --- | -----------------------------------------------------

69

---

---

The
back-up withholding tax rate is 28% for years through 2010. Back-up withholding and
information reporting will not apply to payments made to Non-U. S. Holders if they have
provided the required certification that they are not United States persons.

In
the case of payments by a payor or middleman to a foreign simple trust, foreign grantor
trust or foreign partnership, other than payments to a holder that qualifies as a
withholding foreign trust or a withholding foreign partnership within the meaning of the
Treasury regulations and payments that are effectively connected with the conduct of a
trade or business in the United States, the beneficiaries of the foreign simple trust, the
person treated as the owner of the foreign grantor trust or the partners of the foreign
partnership will be required to provide the certification discussed above in order to
establish an exemption from backup withholding tax and information reporting requirements.

The
amount of any back-up withholding will be allowed as a credit against a U.S. Holders
U.S. federal income tax liability and may entitle the holder to a refund, provided that
required information is furnished to the IRS.

|F. | DIVDENDS
AND PAYING AGENTS
|-- | --------------------------

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

|G. | STATEMENT
BY EXPERTS
|-- | --------------------

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

|H. | DOCUMENTS
ON DISPLAY
|-- | --------------------

A
copy of each report submitted in accordance with applicable United States law is available
for public review at our principal executive offices. In addition, our filings with the
Securities and Exchange Commission may be inspected without charge at the SECs
Public Reference Room at 100 F Street, N.E., Room 1580, Washington, D.C. 20549.
Information on the operation of the Public Reference Room can be obtained by calling the
SEC at 1-800-SEC-0330. Our SEC filings are also available to the public from the
SECs website at www.sec.gov

A
copy of each document (or a translation thereof to the extent not in English) concerning
Syneron Medical Ltd. that is referred to in this annual report on Form 20-F, is available
for public view (subject to confidential treatment of certain agreements pursuant to
applicable law) at our principal executive offices.

|I. | SUBSIDIARY
INFORMATION
|-- | ----------------------

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

|ITEM 11. |  | QUANTITATIVE
AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
|-------- |  | ----------------------------------------------------------

Exchange
Rate Risk. A significant portion of our operations is conducted through
operations in countries other than the United States and Israel. Revenues from our
international operations which were recorded in U.S. dollars represented 83.0% of our
total revenues for the year ended December 31, 2004. Substantially all of the remaining
17.0% were sales in Euros. Since we conduct our business in U.S. dollars, our main
exposure, if any, results from changes in the exchange rate between the Euro and the U.S.
dollar. Our functional currency is the U.S. dollar. Our policy is to reduce exposure to
exchange rate fluctuations by having most of our assets and liabilities, as well as most
of our revenues and expenditures, in U.S. dollars, or U.S. dollar linked. Therefore, we
believe that the potential loss that would result from an increase or decrease in the
exchange rate is immaterial to our business and net assets. We currently do not use
derivative financial instruments to hedge our exposure to exchange rate fluctuations.

70

---

---

Interest
Rate Risk.We do not have any outstanding loans and therefore, our exposure to
market risk for changes in interest rate relates primarily to our investments in cash,
marketable securities and bank deposits. The primary objective of our
investment activities is to preserve principal while maximizing the interest income we
receive from our investments, without increasing risk. We invest approximately 75% of our
cash balances in bank deposits and the remainder primarily in securities issued by the
United States, by non-U.S. governments and by high quality U.S and non U.S corporations
featuring high credit rating of A and up. We do not use derivative financial instruments
to limit exposure to interest rate risk. Our interest gains may decline in the future as a
result of changes in the financial markets; however we believe any such potential loss
would be immaterial to us.

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

At
the closing of our initial public offering, all of our outstanding preferred shares were
converted into ordinary shares. Amendments to articles of incorporation (relating only to
ordinary shares and allowing, for example, free transferability of shares) became
effective upon the closing of our initial public offering. Since our initial public
offering, no instruments defining the rights of our ordinary shares holders have
been modified.

|E. | USE
OF PROCEEDS
|-- | ---------------

The
effective date of our first registration statement, filed on Form F-1 under the Securities
Act of 1933 (No. 333-117369), relating to the initial public offering of our ordinary
shares, was August 5, 2004. The offering date was August 5, 2004. The offering was managed
by Citigroup, CIBC World Markets and Stephens Inc. In the offering we sold 5,000,000
ordinary shares at a per share price of $12. Our net aggregate proceeds (after
underwriting discount and expenses) amounted to approximately $54 million. The offering
closed on August 11, 2004. In connection with our underwritten secondary offering of March
2005, certain of our option holders exercised options to purchase the ordinary shares that
they sold in such secondary offering. We did not receive any proceeds from the sale of the
ordinary shares offered by the selling shareholders in our underwritten secondary offering
other than proceeds from such option exercises.

The
amount of the underwriting discount paid by us in the initial public offering was
approximately $4.2 million and the expenses of the offering, not including the
underwriting discount, were approximately $2.0 million, consisting of, among other things,
SEC registration fees, NASD filings fees, Nasdaq National Market listing fees, Israel
stamp duty and legal and accounting fees. Payment of these expenses were not direct or
indirect payments to our directors, officers, major shareholders or affiliates.

To
date, the net proceeds of the offering were invested in term deposits in U.S. banks. We
still intend to use the proceeds in the manner set forth in our prospectus of August 5,
2004.

71

---

---

|ITEM 15. |  | CONTROLS
AND PROCEDURES
|-------- |  | -----------------------

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,
2004. 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 we file or submit under the
Securities Exchange Act of 1934, as amended, and the rules thereunder, is recorded,
processed, summarized and reported within the time periods specified in the SECs
rules and forms.

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

Our
Board of Directors has determined that Dr. Michael Anghel, who is an independent director
(as defined under Rule 4200(a)(15) of the NASD market rules) and serves on our audit
committee, qualifies as an audit committee financial expert as defined in Item
16A of Form 20-F.

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

In
2004, we adopted a Code of Business Conduct and Ethics, which applies to the
Companys directors, officers and employees, including the Companys Chief
Executive Officer, Chief Financial Officer, principal accounting officer or controller,
and persons performing similar functions. This Code has been posted on our website,
www.syneron.com.

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

During
the years 2003 and 2004, we paid the following fees for the professional services rendered
by Kost Forer Gabbay & Kasierer, independent registered public accounting firm, a
member of Ernst & Young Global:

|                   | 2003 | 2004
|------------------ | ---- | ----
|
|
|
|
|Audit Fees         |      |     
|Audit Related Fees |      |     
|Tax Fees           |      |     
|All Other Fees     |      |     
|Total              |      |     

Audit
related services rendered by Kost Forer Gabbay & Kasierer, a member of Ernst &
Young Global, during 2004 were in connection with our initial public offering. Tax
services rendered by Kost Forer Gabbay & Kasierer during 2003 and 2004 were in
connection with our tax filings in Israel and North America. The amount comprising
All Other Fees was paid for a transfer price survey in 2003 and for management
of stock option plans in 2004.

|ITEM 16D. | EXEMPTIONS
FROM THE LISTING STANDARDS FOR AUDIT COMMITTEES
|--------- | ----------------------------------------------------------

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

72

---

---

|ITEM 16E. |  | PURCHASES
OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATED PURCHASERS
|--------- |  | ----------------------------------------------------------------------

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

# PART III

|ITEM 17. |  | FINANCIAL
STATEMENTS
|-------- |  | --------------------

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

|ITEM 18. |  | FINANCIAL
STATEMENTS
|-------- |  | --------------------

The
following consolidated financial statements and related auditors report are filed as
part of this annual report.

|                                                           | 
|---------------------------------------------------------- | 
|
|
|
|
|Report of Independent Registered Public Accounting Firm    | 
|Consolidated Balance Sheets                                | 
|Consolidated Statements of Operations                      | 
|Consolidated Statements of Changes in Shareholders' Equity | 
|Consolidated Statements of Cash Flows                      | 
|Notes to Consolidated Financial Statements                 | 

73

---

---

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

The
following exhibits are filed as part of this annual report on Form 20-F:

|1.1 |  | Registrants
Articles of Association*
|--- |  | -------------------------------------

|1.2 |  | Certificate
Confirming Alteration of a Company's Name (English Translation)*
|--- |  | ----------------------------------------------------------------------------

|4.1 |  | Turn-Key
Manufacturing Agreement by and between R.F.L. Technologies Ltd. and A' to Z' Electronics
Ltd.*^
|--- |  | --------------------------------------------------------------------------------------------------------

|4.2 |  | Turn-Key
Manufacturing Agreement by and between Syneron Medical Ltd. and U.S.R. Electronics
Systems (1987) Ltd.*^
|--- |  | -----------------------------------------------------------------------------------------------------------------

|4.3 |  | Turn-Key
Manufacturing Agreement by and between Syneron Medical Ltd. and Fibernet Ltd.*^
|--- |  | ----------------------------------------------------------------------------------------

|4.4 |  | Patent
License and Settlement Agreement dated March 4, 2004 by and between (a) Lumenis Inc. and
Lumenis Ltd. and (b)          Syneron Inc. and Syneron Medical Ltd.*^
|--- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.5 |  | 2003
Stock Option Plan*
|--- |  | -----------------------

|4.6 |  | 2004
Israel Stock Option Plan*
|--- |  | ------------------------------

|4.7 |  | 2004
United States, Canada and Rest of World Stock Option Plan*
|--- |  | ---------------------------------------------------------------

|4.8 |  | Patent
License and Settlement Agreement dated as of June 3, 2005 by and between Thermage, Inc.
and Syneron Medical          Ltd.
|--- |  | --------------------------------------------------------------------------------------------------------------------------------

|8. |  | List
of subsidiaries*
|-- |  | ---------------------

|12.1 |  | Certification
of Chief Executive Officer
|---- |  | ----------------------------------------

|12.2 |  | Certification
of Chief Financial Officer
|---- |  | ----------------------------------------

|13. |  | Certification
of Periodic Financial Reports
|--- |  | -------------------------------------------

|15.1 |  | Consent
of Independent Registered Public Accounting Firm
|---- |  | --------------------------------------------------------

---

* Previously filed as an exhibit to
the Registration Statement on Form F-1 with respect to the Registrants initial
public offering.

^ Portions of this exhibit have been
omitted and filed separately with the secretary of the Securities and Exchange Commission
pursuant to a confidential treatment request.

74

---

---

# SYNERON MEDICAL 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-5 
|Consolidated Statements of Changes in Shareholders' Equity | F-6 
|Consolidated Statements of Cash Flows                      | F-8 
|Notes to the Consolidated Financial Statements             | F-9 

F - 1

---

---

# REPORT OF INDEPENDENT REGISTERED
PUBLIC ACCOUNTING FIRM

To the Shareholders of 
SYNERON MEDICAL LTD.

We
have audited the accompanying consolidated balance sheets of Syneron Medical Ltd. (the
Company) and its subsidiaries as of December 31, 2004 and 2003 and the related
consolidated statements of operations, changes in shareholders equity and cash flows
for each of the three years in the period ended December 31, 2004. These consolidated
financial statements are the responsibility of the Companys management. Our
responsibility is to express an opinion on these consolidated financial statements based
on our audits.

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

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

Kost Forer Gabbay & Kasierer
A Member of Ernst & Young Global
Haifa, Israel
February 6, 2005

F - 2

---

---

# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# CONSOLIDATED BALANCE SHEETS 
(U.S. dollars in
thousands)

|                                                             |  | December 31,
|------------------------------------------------------------ |  | ------------
|
|
|
|
|Current Assets                                               |  |             
|Cash and cash equivalents                                    |  |             
|Short-term deposits                                          |  |             
|Marketable securities                                        |  |             
|Trade receivables (net of allowance for doubtful accounts of |  |             
|$21and $263 as of December 31, 2003 and 2004, respectively)  |  |             
|Other accounts receivables and prepaid expenses              |  |             
|Inventories                                                  |  |             
|                                                             |  |             
|Total current assets                                         |  |             
|                                                             |  |             
|                                                             |  |             
|Long-Term Assets                                             |  |             
|Severance pay fund                                           |  |             
|Long-term bank deposit and others                            |  |             
|Long-term trade receivables                                  |  |             
|Property and equipment, net                                  |  |             
|                                                             |  |             
|Total long-term assets                                       |  |             
|                                                             |  |             
|Other assets                                                 |  |             
|                                                             |  |             
|                                                             |  |             
|Total assets                                                 |  |             
|                                                             |  |             

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

F - 3

---

---

# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# CONSOLIDATED BALANCE SHEETS 
(U.S. dollars in
thousands, except share data)

|                                                                |  | December 31,
|--------------------------------------------------------------- |  | ------------
|
|
|
|
|Current Liabilities                                             |  |             
|Trade payables                                                  |  |             
|Other current liabilities                                       |  |             
|                                                                |  |             
|Total current liabilities                                       |  |             
|                                                                |  |             
|                                                                |  |             
|Long-Term Liabilities                                           |  |             
|Deferred revenues                                               |  |             
|Litigation settlement fee                                       |  |             
|Accrued severance pay                                           |  |             
|                                                                |  |             
|Total long-term liabilities                                     |  |             
|                                                                |  |             
|                                                                |  |             
|Commitments and Contingent Liabilities                          |  |             
|Shareholders' Equity                                            |  |             
|                                                                |  |             
|Ordinary shares of NIS 0.01 par value:                          |  |             
|Authorized 20,373,477 and 100,000,000 shares as of December 31, |  |             
|2003 and 2004, respectively                                     |  |             
|Issued and outstanding 4,692,000 and 23,288,820 shares as of    |  |             
|December 31, 2003 and 2004, respectively                        |  |             
|Convertible Preferred A shares of NIS 0.01 par value:           |  |             
|Authorized 2,942,722 and 0 shares as of December 31, 2003       |  |             
|and 2004, respectively                                          |  |             
|Issued and outstanding 2,562,722 and 0 shares as of             |  |             
|December 31, 2003 and 2004, respectively                        |  |             
|Convertible Preferred B shares of NIS 0.01 par value:           |  |             
|Authorized 1,065,079 and 0 shares as of December 31, 2003       |  |             
|and 2004, respectively                                          |  |             
|Issued and outstanding 1,065,079 and 0 shares as of             |  |             
|December 31, 2003 and 2004, respectively                        |  |             
|Additional paid-in capital                                      |  |             
|Accumulated other comprehensive income (loss)                   |  |             
|Deferred stock compensation                                     |  |             
|Treasury shares  120,000 Convertible Preferred A shares as of  |  |             
|December 31, 2003 and 662,874 Ordinary Shares as of             |  |             
|December 31, 2004                                               |  |             
|Retained earnings                                               |  |             
|                                                                |  |             
|Total shareholders' equity                                      |  |             
|                                                                |  |             
|Total liabilities and shareholders' equity                      |  |             
|                                                                |  |             

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

F - 4

---

---

# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# CONSOLIDATED
STATEMENTS OF OPERATIONS 
(U.S. dollars in thousands,
except share data)

|                                                        |  | December 31,
|------------------------------------------------------- |  | ------------
|
|
|
|
|Revenues                                                |  |             
|                                                        |  |             
|Cost of revenues                                        |  |             
|                                                        |  |             
|                                                        |  |             
|Gross profit                                            |  |             
|                                                        |  |             
|                                                        |  |             
|Operating expenses                                      |  |             
|Research and development                                |  |             
|Less-participation by the Office of the Chief Scientist |  |             
|                                                        |  |             
|                                                        |  |             
|Research and development, net                           |  |             
|Selling and marketing                                   |  |             
|General and administrative                              |  |             
|Settlement and related legal costs*                     |  |             
|                                                        |  |             
|                                                        |  |             
|Total operating expenses                                |  |             
|                                                        |  |             
|                                                        |  |             
|Operating income                                        |  |             
|Financial income, net                                   |  |             
|                                                        |  |             
|                                                        |  |             
|Income before taxes on income                           |  |             
|                                                        |  |             
|Taxes on income                                         |  |             
|                                                        |  |             
|Net income                                              |  |             
|                                                        |  |             
|                                                        |  |             
|Basic net earnings per share                            |  |             
|                                                        |  |             
|                                                        |  |             
|Diluted net earnings per share                          |  |             
|                                                        |  |             
|                                                        |  |             
|Weighted average number of shares used in per share     |  |             
|calculations (in thousands):                            |  |             
|Basic                                                   |  |             
|                                                        |  |             
|Diluted                                                 |  |             
|                                                        |  |             

---

* For the year ended December 31,
2002, this number represents legal costs only.

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

F - 5

---

---

# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# CONSOLIDATED
STATEMENTS OF CHANGES IN SHAREHOLDERS EQUITY 
(U.S. dollars in thousands)

|                               | Share Capital | Additional
Paid-in
Capital | Accumulated
Other
Compre-
hensive
Income (loss) | Deferred
Stock
Compen-
sation | Treasury
Shares | Retained
Earnings | Total
Share-
holders'
Equity | Total
Compre-
hensive
Income
|------------------------------ | ------------- | -------------------------- | ----------------------------------------------- | ----------------------------- | --------------- | ----------------- | ---------------------------- | ----------------------------
|
|
|
|
|Balances as of                 |               |                            |                                                 |                               |                 |                   |                              |                             
|January 1, 2004                |               |                            | $                                               | 3                             |                 | $                 | 7                            |                             
|Issuance of Preferred A shares |               |                           
|net of issuance costs          |               |                           
|of $1                          |               |                            |                                                 |                              |                 |                   | *                            |                             
|Repurchase of Preferred A      |               |                           
|shares from a shareholder      |               |                            |                                                 |                              |                 |                   | *                            |                             
|Issuance of Ordinary shares    |               |                           
|net of issuance costs of       |               |                           
|$6 million                     |               |                            |                                                 | 39                            |                 |                   |                             |                             
|Exercise of options            |               |                            |                                                 | 3                             |                 |                   |                             |                             
|Conversion of Preferred A and  |               |                           
|B Shares into ordinary         |               |                           
|shares                         |               |                            |                                                 | 9                             |                 |                   | (7                           | )                           
|Amortization of deferred       |               |                           
|stock-based                    |               |                           
|compensation                   |               |                            |                                                 |                              |                 |                   |                             |                             
|Other comprehensive income:    |               |                           
|Unrealized loss on available   |               |                           
|for sale securities            |               |                            |                                                 |                              |                 |                   |                             |                             
|Reclassification adjustments   |               |                           
|for gain included in net       |               |                           
|income                         |               |                            |                                                 |                              |                 |                   |                             |                             
|Net income                     |               |                            |                                                 |                              |                 |                   |                             |                             
|                               |               |                            |                                                 |                               |                 |                   |                              |                             
|Total comprehensive income     |               |                            |                                                 |                               |                 |                   |                              |                             
|                               |               |                            |                                                 |                               |                 |                   |                              |                             
|Balance as of                  |               |                           
|December 31, 2004              |               |                            | $                                               | 54                            |                 | $                 |                             |                             
|                               |               |                            |                                                 |                               |                 |                   |                              |                             

---

* Represents an amount less than $1

|                               | Share Capital | Additional
Paid-in
Capital | Receipts on
Account of
Shares | Deferred
Stock
Compen-
sation | Retained
Earnings
(Accum-
ulated
Deficit) | Total
Share-
holders'
Equity | Total
Compre-
hensive
Income
|------------------------------ | ------------- | -------------------------- | ----------------------------- | ----------------------------- | ----------------------------------------- | ---------------------------- | ----------------------------
|
|
|
|
|Balances as of January 1, 2002 |               |                            | $                             | 3                             |                                           | $                            | 6                           
|Issuance of Preferred B shares |               |                           
|net of issuance costs of $55   |               |                            |                               |                              |                                           |                              |                            
|Amortization of deferred       |               |                           
|stock-based compensation       |               |                            |                               |                              |                                           |                              |                            
|Non-employee stock-based       |               |                           
|compensation                   |               |                            |                               |                              |                                           |                              |                            
|Deferred stock-based           |               |                           
|compensation                   |               |                            |                               |                              |                                           |                              |                            
|Other comprehensive income:    |               |                           
|Net income                     |               |                            |                               |                              |                                           |                              |                            
|                               |               |                            |                               |                               |                                           |                              |                             
|Total comprehensive income     |               |                            |                               |                               |                                           |                              |                             
|                               |               |                            |                               |                               |                                           |                              |                             
|Balance as of                  |               |                           
|December 31, 2003              |               |                            | $                             | 3                             |                                           | $                            | 6                           
|                               |               |                            |                               |                               |                                           |                              |                             

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

F - 6

---

---



# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# CONSOLIDATED
STATEMENTS OF CHANGES IN SHAREHOLDERS EQUITY 
(U.S. dollars in thousands)

|                               | Share Capital | Additional
Paid-in
Capital | Accumulated
Other
Compre-
hensive
Income | Deferred
Stock
Compen-
sation | Treasury
Convertible
Preferred
A Shares | Retained
Earnings | Total
Share-
holders'
Equity | Total
Compre-
hensive
Income
|------------------------------ | ------------- | -------------------------- | ---------------------------------------- | ----------------------------- | --------------------------------------- | ----------------- | ---------------------------- | ----------------------------
|
|
|
|
|Balances as of January 1, 2003 |               |                            | $                                        | 3                             |                                         | $                 | 6                            |                             
|Exercise of warrants           |               |                            |                                          |                              |                                         |                   | 1                            |                             
|Deferred stock-based           |               |                           
|compensation                   |               |                            |                                          |                              |                                         |                   |                             |                             
|Amortization of deferred       |               |                           
|stock-based                    |               |                           
|compensation                   |               |                            |                                          |                              |                                         |                   |                             |                             
|Non-employee stock-based       |               |                           
|compensation                   |               |                            |                                          |                              |                                         |                   |                             |                             
|Repurchase of Preferred A      |               |                           
|shares from a shareholder      |               |                            |                                          |                              |                                         |                   |                             |                             
|Other comprehensive income:    |               |                           
|Unrealized gain on available   |               |                           
|for sale securities            |               |                            |                                          |                              |                                         |                   |                             |                             
|Net income                     |               |                            |                                          |                              |                                         |                   |                             |                             
|                               |               |                            |                                          |                               |                                         |                   |                              |                             
|Total comprehensive income     |               |                            |                                          |                               |                                         |                   |                              |                             
|                               |               |                            |                                          |                               |                                         |                   |                              |                             
|Balance as of                  |               |                           
|December 31, 2003              |               |                            | $                                        | 3                             |                                         | $                 | 7                            |                             
|                               |               |                            |                                          |                               |                                         |                   |                              |                             

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

F - 7

---

---



# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# CONSOLIDATED STATEMENT
OF CASH FLOWS 
(U.S. dollars in
thousands)

|                                                             | Year ended December 31,
|------------------------------------------------------------ | -----------------------
|
|
|
|
|Cash Flows From Operating Activities                         |                        
|Net income                                                   |                        
|Adjustments to reconcile net income to net cash provided     |                        
|by operating activities:                                     |                        
|Depreciation                                                 |                        
|Accrued severance pay, net                                   |                        
|Increase in short-term and long-term trade receivables       |                        
|Increase in other accounts receivable and prepaid expenses   |                        
|Increase in inventories                                      |                        
|Increase (decrease) in trade payables                        |                        
|Increase in other current liabilities                        |                        
|Increase (decrease) in long-term litigation settlement fee   |                        
|Gain on available for sale securities                        |                        
|Stock-based compensation                                     |                        
|Increase in deferred revenues                                |                        
|Loss on sales of property and equipment                      |                        
|                                                             |                        
|Net cash provided by operating activities                    |                        
|                                                             |                        
|                                                             |                        
|Cash Flow From Investment Activities                         |                        
|Investment in short-term deposits                            |                        
|Purchase of available-for-sale securities                    |                        
|Proceeds from sale of available-for-sale securities          |                        
|Payment for acquisition of long-term bank deposit and others |                        
|Purchase of property and equipment                           |                        
|Purchase of other assets                                     |                        
|Proceeds from sale of property and equipment                 |                        
|                                                             |                        
|Net cash used in investing activities                        |                        
|                                                             |                        
|                                                             |                        
|Cash Flows From Financing Activities                         |                        
|Short-term bank credit, net                                  |                        
|Proceeds from issuance of ordinary and preferred shares, net |                        
|Exercise of options                                          |                        
|Repurchase of Preferred A shares from shareholders           |                        
|                                                             |                        
|Net cash provided by (used in) financing activities          |                        
|                                                             |                        
|                                                             |                        
|Increase in cash and cash equivalents                        |                        
|Cash and cash equivalents at the beginning of the year       |                        
|                                                             |                        
|Cash and cash equivalents at the end of the year             |                        
|                                                             |                        
|                                                             |                        
|Supplemental Disclosure of Cash Flow Activities              |                        
|Cash paid during the year for:                               |                        
|Interest                                                     |                        
|                                                             |                        
|Income taxes                                                 |                        
|                                                             |                        

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

F - 8

---

---



# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# NOTES TO THE
CONSOLIDATED FINANCIAL STATEMENTS 
(Amounts expressed in
U.S. dollars)

# 1. General

Syneron
Medical Ltd. (the Company) commenced operations in July 2000. The Company and
its subsidiaries (together the Group) are principally engaged in research,
development, marketing and sales of aesthetic medical equipment to physicians,
dermatologists, plastic surgeons and other qualified practitioners worldwide. The Company
sells its products directly to users and through third-party distributors.

Syneron
GmbH (Sy-GmbH) a wholly-owned subsidiary in Germany, was established in August
2001, to market and sell the Companys products in Europe. Syneron Inc.
(Sy-Inc.) and Syneron Canada Corp. (Sy-Can), also wholly-owned
subsidiaries, were established during 2002 to market and sell the Companys products
in North America.

On
August 11, 2004, the Company completed an initial public offering (IPO or
Offering) of its ordinary shares. Pursuant to the IPO, the Company issued 5
million ordinary shares and received net proceeds of approximately $54 million (net of
underwriting commissions and expenses of approximately $6 million). Trading in the
Companys ordinary shares commenced on August 6, 2004 on the Nasdaq National Market.
The underwriters were granted an option, exercisable within 30 days from the date of the
IPO, to purchase up to 750,000 additional ordinary shares at the public offering price of
$12 per share less underwriting discounts. The option was solely for the purpose of
covering any over-allotments in connection with the Offering. The underwriters did not
exercise the option.

# 2. Significant
Accounting Policies

The
consolidated financial statements were prepared in accordance with United States Generally
Accepted Accounting Principles (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
|--- | ------------------------------------

The
Companys consolidated revenues are generated mainly in U.S. dollars
(dollars). In addition, a substantial portion of the Groups costs are
incurred in dollars. The Companys management believes that the dollar is the primary
currency of the economic environment in which the Company and its subsidiaries operate.
Thus, the dollar is the functional and reporting currency of the Company.

The
Companys transactions and balances originally denominated in dollars are presented
at their original amounts. Transaction and balances in other currencies have been
remeasured into dollars in accordance with principles set forth in Statement of Financial
Accounting Standard No. 52 Foreign Currency Translation. All exchange gains
and losses from remeasurement are reflected in the consolidated statement of operations in
financial income or expenses.

|(c) | Principles
Of Consolidation
|--- | ---------------------------

The
consolidated financial statements include the accounts of the Company and its wholly-owned
subsidiaries. Intercompany transactions and balances including profit from intercompany
sales not yet realized outside the Group, have been eliminated upon consolidation.

F - 9

---

---



# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# NOTES TO THE
CONSOLIDATED FINANCIAL STATEMENTS

# (Amounts expressed in
U.S. dollars)

# 2. Significant
Accounting Policies (continued)

|(d) | Cash
Equivalents
|--- | ----------------

Cash
equivalents are short-term highly liquid investments that are readily convertible into
cash with maturities of less than three months at the date acquired.

|(e) | Marketable
Securities
|--- | ---------------------

Management
determines the classification of investments in marketable securities with fixed
maturities at the time of purchase and re-evaluates such designations as of each balance
sheet date. At December 31, 2003 and 2004, all marketable securities covered by Statement
of Financial Accounting Standard No. 115 Accounting for Certain Investments in Debt
and Equity Securities, were designated as available for sale securities.
Accordingly, the securities designated as available for sale are stated at fair value,
with unrealized gains and losses reported in accumulated other comprehensive income, a
separate component of shareholders equity, net of income taxes.

Realized
gains and losses on sales of investments are included in the consolidated statement of
operations. Interest income resulting from investments in corporate structured notes are
classified as available for sale and accounted for under the provision of Emerging Issue
Task Force No. 96-12, Recognition of Interest Income and Balance Sheet
Classification of Structured Notes (EITF No. 96-12). Under EITF No.
96-12, the retrospective interest method is used for recognizing interest income.

|(f) | Inventories
|--- | -----------

|Inventories
are stated at the lower of cost or market value. 
    Cost is determined as follows:
|------------------------------------------------------------------------------------------------

|Raw
materials, parts and supplies  first in, first out (FIFO) method.
|------------------------------------------------------------------------

|Finished products  FIFO method, cost of manufacturing with the addition of allocable indirect
                    manufacturing costs.
|---------------------------------------------------------------------------------------------------------------------------------------

|(g) | Property
And Equipment, Net
|--- | ---------------------------

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

|                                                            | Years
|----------------------------------------------------------- | -----
|
|
|
|
|Computers, software, manufacturing and laboratory equipment | 3-10 
|Office furniture and equipment                              | 7-15 
|Motor vehicles                                              | 7    

|(h) | Other
Asset
|--- | -----------

Intangible
assets are being amortized over their useful life using a method of straight line
amortization that reflects the pattern in which the economic benefits of the intangible
assets are consumed or otherwise used up, in accordance with Statement of Financial
Accounting Standards No. 142 Goodwill and Other Intangible Assets.

F - 10

---

---



# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# NOTES TO THE
CONSOLIDATED FINANCIAL STATEMENTS

# (Amounts expressed in
U.S. dollars)

# 2. Significant
Accounting Policies (continued)

|(i) | Impairment
Of Long-Lived Assets
|--- | -------------------------------

The
Groups long-lived assets are reviewed for impairment in accordance with Statement of
Financial Accounting Standards No. 144 Accounting for the Impairment or Disposal of
Long-Lived Assets whenever events or changes in circumstances indicate that the
carrying amount of an asset may not be recoverable. Recoverability of an asset to be held
and used is measured by a comparison of the carrying amount of the asset to the future
undiscounted cash flows expected to be generated by the asset. If such asset is considered
to be impaired, the impairment to be recognized is measured as the amount by which the
carrying amount of the asset exceeds its fair value. As of December 31, 2004, no
impairment losses have been identified.

|(j) | Revenue
Recognition
|--- | -------------------

The
Company and its subsidiaries generate revenues mainly from product sales. The Company also
generates revenues from warranties and services. The Company sells its products primarily
through its subsidiaries.

Revenues
are recognized in accordance with Staff Accounting Bulletin No. 104 Revenue
Recognition when delivery has occurred and, where applicable, after installation has
occurred, there is persuasive evidence of an agreement, the fee is fixed or determinable
and collection of the related receivable is probable and no further obligations exist. In
cases where delivery has occurred but the required installation has not been performed,
the Company does not recognize the revenue until the installation is completed. The
Company does not grant a right of return.

Deferred
revenue includes unearned amounts received from customers but not yet recognized as
revenues.

Revenue
from product sales to end users in North America usually includes multiple elements within
a single contract. The Companys accounting policy complies with the revenue
determination requirements set forth in EITF 00-21, relating to the separation of multiple
deliverables into individual accounting units with determinable fair values.

The
Group considers the sale of a product, the three-year warranty and service and the two-day
on-site practice development consultation (where applicable) to be three separate
accounting units of the arrangement and defers the fair value of these separate elements
to the period in which they are earned. Fair value is determined based on the
Companys price list.

In
certain limited circumstances, the Company, together with an unrelated third-party
financing company, enters into installment sales contracts that provide the customers with
long-term (generally up to 36 months) financing of the purchasing of equipment. The extent
of the participation of the financing company varies among customers. Financing income on
these receivables is recognized as earned over the term of the financing.

|(k) | Research
And Development Costs
|--- | ------------------------------

Research
and development costs, net of grants received from the Government of Israel through the
Ministry of Industry and Trade Office of the Chief Scientist, are charged to the statement
of operations as incurred.

F - 11

---

---



# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# NOTES TO THE
CONSOLIDATED FINANCIAL STATEMENTS

# (Amounts expressed in
U.S. dollars)

# 2. Significant
Accounting Policies (continued)

|(l) | Royalty
Bearing Grants
|--- | ----------------------

Royalty-bearing
grants from the Government of Israel for funding approved research and development
projects are recognized at the time the Company is entitled to such grants, on the basis
of the costs incurred and applied as a deduction from research and development costs.
Research and development grants amounted to $244, $153 and $0 in 2002, 2003 and 2004,
respectively. Total royalties accrued or paid amounted to $111 and $294 in 2003 and 2004,
respectively, and were recorded as part of cost of revenues.

|(m) | Stock-Based
Compensation
|--- | ------------------------

The
Group has elected to follow Accounting Principles Board Opinion No. 25, Accounting
for Stock Issued to Employees (APB No. 25) and the FASB Interpretation
No. 44, Accounting for Certain Transactions Involving Stock Compensation in
accounting for its employee stock option plans. According to APB No. 25, compensation
expense is measured under the intrinsic value method, whereby compensation expense is
equal to the excess, if any, of the quoted market price of the share at the date of grant
of the award over the exercise price.

The
Company adopted the disclosure provisions of Financial Accounting Standards Board
Statement No. 148, Accounting for Stock-Based Compensation  Transition and
Disclosure, which amended certain provisions of Statement of Financial Accounting
Standards No. 123, Accounting for Stock-Based Compensation (SFAS
123) to provide alternative methods of transition for an entity that voluntarily
changes to the fair value based method of accounting for stock-based employee
compensation. The Company continues to apply the provisions of APB No. 25, in accounting
for stock-based compensation.

Pro
forma information regarding the Companys net income and net earnings per share is
required by SFAS No. 123 and has been determined as if the Company had accounted for its
employee stock options under the fair value method prescribed by SFAS No. 123.

The
fair value for options granted in 2002, 2003 and 2004 is amortized over their vesting
periods and estimated at the date of grant using the Black-Scholes options pricing model
with the following weighted average assumptions:

|                       | Year Ended December 31,
|---------------------- | -----------------------
|
|
|
|
|Dividend yield         | 0%                     
|Expected volatility    | 70%                    
|Risk-free interest     | 5.03%                  
|Expected life of up to | 7 year                 

If
compensation cost had been determined under the alternative fair value accounting method
provided under SFAS No. 123, the Companys stock-based employee compensation cost,
net income and basic and diluted net earnings per share would have changed to the
following pro forma amounts:

F - 12

---

---



# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# NOTES TO THE
CONSOLIDATED FINANCIAL STATEMENTS

# (Amounts expressed in
U.S. dollars)

# 2. Significant
Accounting Policies (continued)

|                                                                             | Year Ended December 31,
|---------------------------------------------------------------------------- | -----------------------
|
|
|
|
|Net income as reported                                                       |                        
|Add - Stock-based compensation expense, as reported (intrinsic value method) |                        
|Deduct - Stock-based compensation expense under fair value based method      |                        
|of SFAS 123                                                                  |                        
|                                                                             |                        
|Pro forma net income                                                         |                        
|                                                                             |                        
|Net earnings per share:                                                      |                        
|Basic net earnings per share as reported                                     |                        
|Diluted net earnings per share as reported                                   |                        
|Pro forma basic net earnings per share                                       |                        
|Pro forma diluted net earnings per share                                     |                        

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

|(n) | Basic
And Diluted Net Earning Per Share
|--- | ---------------------------------------

Basic
net earning per share is computed based on the weighted average number of ordinary shares
outstanding during each year, plus the dilutive potential of preferred shares outstanding
during each year using the If Converted Method. Diluted net earning per share
is computed based on the weighted average number of ordinary shares outstanding during
each year, plus the dilutive potential of options and warrants considered to be
outstanding during each year, in accordance with Statement of Financial Standard No. 128,
Earnings Per Share.

|(o) | Fair
Value Of Financial Instruments
|--- | -----------------------------------

The
following methods and assumptions are used by the Company in estimating fair values:

The carrying
amount reported in the consolidated balance sheet for cash and cash equivalents,
short-term bank deposits, trade receivables, and trade payables approximate their fair
values due to the short-term maturities of such instruments. The carrying amount of
long-term trade receivables approximates their fair value as they bear interest which is
close to the market rate.

Marketable
securities are presented at fair value based on quoted market prices.

The
value of long-term bank deposits approximates fair value due to the variable interest rate
on these deposits.

|(p) | Income
Taxes
|--- | ------------

The
Company and its subsidiaries account for income taxes in accordance with Statement of
Financial Accounting Standards No. 109, Accounting for Income Taxes
(SFAS No. 109). This statement prescribes the use of the liability method,
whereby deferred tax assets and liability account balances are determined based on
differences between financial reporting and tax 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 subsidiaries provide a valuation allowance if
necessary, to reduce deferred tax assets to their estimated realizable value.

F - 13

---

---



# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# NOTES TO THE
CONSOLIDATED FINANCIAL STATEMENTS

# (Amounts expressed in
U.S. dollars)

# 2. Significant
Accounting Policies (continued)

|(q) | Severance
Pay
|--- | -------------

The
Companys liability for severance pay to its Israeli employees is calculated pursuant
to Israeli 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. Employees are entitled
to one months salary for each year of employment or a portion thereof. The
Companys liability for all of its Israeli employees is fully provided by monthly
deposits for 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 Israeli
severance pay law or labor agreements. The value of the deposited funds is based on the
cash surrender value of these policies, and includes immaterial profits.

Severance
expenses for the years ended December 31, 2002, 2003 and 2004 amounted to approximately
$45, $59 and $100, respectively.

|(r) | Advertising
Expenses
|--- | --------------------

Advertising
expenses are charged to the statements of operations, as incurred. Advertising expenses
for the years ended December 31, 2002, 2003 and 2004 were $368, $1,188 and $1,196,
respectively.

|(s) | Concentration
Of Credit Risk
|--- | ----------------------------

Financial
instruments that potentially subject the Group to concentrations of credit risk consist
principally of cash and cash equivalents, marketable securities, and trade receivables.
The majority of the Groups cash and cash equivalents are invested in dollar
instruments of major banks in Israel and in the United States. Management believes that
the financial institutions that hold the Companys investments are financially sound
and, accordingly, minimal credit risk exists with respect to these investments.

The
Companys trade receivables are derived from sales to large independent distributors
located mainly in Western Europe, Asia Pacific region and to end-users in North America.
The Company performs ongoing credit evaluations of its customers and to date has not
experienced any material losses. An allowance for doubtful accounts is determined with
respect to those specific amounts that the Company has determined to be doubtful of
collection.

The
Companys marketable securities include investments in debentures of Israeli, U.S.,
Scotch and Austrian Corporations. Management believes that the portfolio is well
diversified and accordingly minimal credit risk exists with respect to these marketable
securities.

The
Company and its subsidiaries have no significant off-balance sheet concentration of
financial instruments subject to credit risk such as foreign exchange contracts, option
contracts or other hedging arrangements.

|(t) | Warranty
And Service Costs
|--- | --------------------------

Warranty
and service costs in relation to products sold in North America to end users with a three
year warranty and service obligation is recognized as incurred.

F - 14

---

---



# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# NOTES TO THE
CONSOLIDATED FINANCIAL STATEMENTS

# (Amounts expressed in
U.S. dollars)

# 2. Significant
Accounting Policies (continued)

For
sales to customers outside North America, the Company generally provides a one year
standard warranty with its products with no service obligation attached, depending on the
type of product. After the warranty period, maintenance and support is provided on a
service contract basis or on an individual call basis. On sales to distributors, the
Company provides a warranty on parts only. The Company provides for the estimated cost to
repair or replace products under warranty (other than North American end users) at the
time of sale.

Warranty
provision for sales to customers (who are not North American end users) are as follows:

|                                       | 
|-------------------------------------- | 
|
|
|
|
|Balance, beginning of the year         | 
|Add: Warranties issued during the year | 
|Less: Settlements made during the year | 
|                                       | 
|Balance, end of the year               | 
|                                       | 

|(u) | 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. Accrued interest is included in
other receivables.

|(v) | Impact
Of Recently Issued Accounting Standards
|--- | ----------------------------------------------

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

| | 2. | In
December 2004, the FASB issued Statement of Financial Accounting Standard No.
               153, Exchanges of Nonmonetary Assets, an amendment of APB Opinion No. 29
               (SFAS 153). According to APB Opinion No. 29, Accounting for
               Nonmonetary Transactions (APB 29), exchanges of nonmonetary
assets                should be measured based on fair value of the assets exchanged.
SFAS 153 amends                APB 29 to eliminate the exception for nonmonetary
exchanges of similar                productive assets and replaces it with a general
exception for exchanges of                nonmonetary assets that do not have commercial
substance. A nonmonetary exchange                has commercial substance if the future
cash flows of the entity are expected to                change significantly as a result
of the exchange. SFAS 153 is effective for                nonmonetary asset exchanges
occurring in fiscal periods beginning after June 15,                2005. The Company
does not expect that the adoption of SFAS 153 will have a                material effect
on its financial position or results of operations.
| | -- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

F - 15

---

---



# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# NOTES TO THE
CONSOLIDATED FINANCIAL STATEMENTS

# (Amounts expressed in
U.S. dollars)

# 2. Significant
Accounting Policies (continued)

| | 3. | On
December 16, 2004, the Financial Accounting Standards Board (FASB) issued
               Statement No. 123 (revised 2004), Share-Based Payment (Statement
               123(R)), which is a revision of FASB Statement No. 123, Accounting
for                Stock-Based Compensation (Statement 123). Generally, the
approach in                Statement 123(R) is similar to the approach described in
Statement 123. However,                Statement 123 permitted, but did not require,
share-based payments to employees                to be recognized based on their fair
values. Statement 123(R) requires all                share-based payments to employees to
be recognized based on their fair values.                Statement 123(R) also revises,
clarifies and expands guidance in several areas,                including measuring fair
value, classifying an award as equity or as a liability                and attributing
compensation cost to reporting periods. The new standard will be                effective
for the Company in the first interim period beginning after June 15,                2005.
The Company has not yet determined the effect of the adoption of statement
               123(R) on the financial statements.
| | -- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

# 3. Short-Term
Deposits

|                       | December 31,
|---------------------- | ------------
|
|
|
|
|Short-term deposits(1) |             
|Short-term deposit(2)  |             
|Structured note(3)     |             
|                       |             
|                       |             
|                       |             

---

|(1) | The
deposits are in U.S. banks, bear annual interest of 1.87-1.99%.
|--- | -------------------------------------------------------------------

|(2) | The
deposit bears annual interest of 9%, only if the exchange rate between Euro
                    and U.S. dollar remain between 1.18-1.38 over a period of one year.
Otherwise,                     the note will not bear any interest.
|--- | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|(3) | The
structured note is redeemable by the Bank at the earlier of (a) the end of
                    10 years or (b) when the aggregate interest amount reaches 12% but
not earlier                     than the end of 1.5 years. The interest rate in the first
year is 10% and from                     the second year will be 9.25% minus twice LIBOR
for 6 months from the second                     year to maturity.
|--- | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

# 4. Marketable
Securities

|                                                    | December 31, 2004
|--------------------------------------------------- | -----------------
|
|
|
|
|Available for sale - matures after                  |                  
|one year through three years:                       |                  
|Corporate structured notes - floating interest rate |                  
|Corporate debentures - fixed interest rate          |                  
|Equity securities                                   |                  
|                                                    |                  
|                                                    |                  
|                                                    |                  
|Available for sale - matures after                  |                  
|three years through five years:                     |                  
|Corporate debentures - fixed interest rate          |                  
|                                                    |                  
|Available for sale - matures after five years:      |                  
|Government debentures - fixed interest rate         |                  
|Corporate debentures - fixed interest rate          |                  
|                                                    |                  
|                                                    |                  
|                                                    |                  
|                                                    |                  
|                                                    |                  

F - 16

---

---



# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# NOTES TO THE
CONSOLIDATED FINANCIAL STATEMENTS

# (Amounts expressed in
U.S. dollars)

# 4. Marketable
Securities (continued)

|                                                    | December 31, 2003
|--------------------------------------------------- | -----------------
|
|
|
|
|Available for sale - matures after                  |                  
|one year through three years:                       |                  
|Corporate structured notes - floating interest rate |                  
|Equity securities                                   |                  
|                                                    |                  
|                                                    |                  
|                                                    |                  
|Available for sale - matures after                  |                  
|three years through five years:                     |                  
|Government debentures - fixed interest rate         |                  
|                                                    |                  
|Available for sale - matures after five years:      |                  
|Government debentures - fixed interest rate         |                  
|Corporate debentures - fixed interest rate          |                  
|                                                    |                  
|                                                    |                  
|                                                    |                  
|                                                    |                  
|                                                    |                  

The
Companys available for sale securities fair value as of December 31, 2003 and 2004
amounted to $11,410 and $23,071, respectively. During 2003 and 2004, the Company recorded
proceeds from sales of these securities in the amount of $487 and $6,116, respectively,
and related gains of $341 and $452, respectively, in financial income and other
comprehensive income (loss) of $168 and $(432), respectively, and reclassification
adjustments for gain included in net income of $0 and $190, respectively, from these
securities.

# 5. Other Accounts
Receivable And Prepaid Expenses

|                        | December 31,
|----------------------- | ------------
|
|
|
|
|Government institutions |             
|Prepaid expenses        |             
|Other receivables       |             
|                        |             
|                        |             
|                        |             

# 6. Inventories

|                  | December 31,
|----------------- | ------------
|
|
|
|
|Raw materials     |             
|Finished products |             
|                  |             
|                  |             
|                  |             

F - 17

---

---



# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# NOTES TO THE
CONSOLIDATED FINANCIAL STATEMENTS

# (Amounts expressed in
U.S. dollars)

# 7. Long-Term Bank
Deposit And Others

|                 | December 31,
|---------------- | ------------
|
|
|
|
|Structured note* |             
|Others           |             
|                 |             
|                 |             
|                 |             

---

* See Note 3(2)

# 8. Property And
Equipment, Net

|                                                            | December 31,
|----------------------------------------------------------- | ------------
|
|
|
|
|Cost:                                                       |             
|Computers, software, manufacturing and laboratory equipment |             
|Office furniture and equipment                              |             
|Motor vehicles                                              |             
|                                                            |             
|Total cost                                                  |             
|                                                            |             
|Accumulated depreciation                                    |             
|Computers, software, manufacturing and laboratory equipment |             
|Office furniture and equipment                              |             
|Motor vehicles                                              |             
|                                                            |             
|Total accumulated depreciation                              |             
|                                                            |             
|Depreciated cost                                            |             
|                                                            |             

Depreciation
expense for the years ended December 31, 2002, 2003 and 2004 were $60, $84 and $143,
respectively.

# 9. Other Asset

In
December 2004, the Company purchased a U.S. patent, in the amount of $1,000.

The
annual amortization expense relating to patent as of December 31, 2004 for each of the
five years in the period ending December 31, 2009 is estimated to be approximately $200.

# 10. Other Current
Liabilities

|                           | December 31,
|-------------------------- | ------------
|
|
|
|
|Deferred revenues          |             
|Litigation settlement fee* |             
|Accrued expenses           |             
|Accrued commission         |             
|Other current liabilities  |             
|                           |             
|                           |             
|                           |             

---

* See Note 11(c).

F - 18

---

---



# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# NOTES TO THE
CONSOLIDATED FINANCIAL STATEMENTS

# (Amounts expressed in
U.S. dollars)

# 11. Commitments And
Contingencies

|(a) | Royalties
|--- | ---------

The
Company has entered into several research and development agreements, pursuant to which
the Company is obligated to pay royalties to the Government of Israel at a rate of 3% of
sales of product in which the Government of Israel has participated in financing the
research and development, up to the amounts granted (linked to the U.S. dollar with annual
interest at LIBOR as of the date of approval). Repayment of such grants is not required in
the event that there are no sales of product developed within the framework of the funded
programs. Through 2004 the Company repaid all the grants received.

|(b) | Leases
|--- | ------

The
Group operates from leased facilities in Canada, United States, Germany and Israel leased
for periods expiring in years 2005 through 2007.

The
future minimum lease commitments of the Group under various non-cancelable operating lease
agreements in respect of premises and motor vehicles as of December 31, 2004 are as
follows:

|Year Ended
December 31, | U.S. $
|----------------------- | ------
|
|
|
|
|2005                    |       
|2006                    |       
|2007                    |       

Rent
expenses amount to $347, $280 and $347 for the years 2002, 2003 and 2004, respectively.

|(c) | Legal
Claims
|--- | ------------

On
September 20, 2002, a competitive company (the Competitor) filed an action in
the Santa Clara, California Superior Court against the Companys subsidiaries in
Canada and in the U.S. (the Syneron entities) and some of the
Competitors former employees (the former employees) who were
subsequently employed by the Companys subsidiaries. The Competitor asserted
generally that the Companys subsidiaries have attempted to misappropriate the
Competitors trade secrets and customer information, and steal its employees,
representatives and customers.

The
Competitor alleged that the former employees breached contracts they had with the
Competitor which prohibited the former employees from disclosing confidential information
which they acquired while employed by the Competitor. The Competitor further alleged that
the Syneron entities induced the former employees to breach their contracts with the
Competitor. In addition, the Competitor alleged that the Syneron entities and the former
employees induced other Competitors employees, representatives and existing or potential
customers to terminate their relationship with the Competitor.

On
September 20, 2002, the Competitor filed an action in the District Court of Tel Aviv
against the Company, some of the Companys employees who were previously employed by
the Competitor and some of the Companys shareholders. The Competitors claims
in this action were basically the same the claims stated above. In its action, the
Competitor also demanded that all of the Companys activities were ceased immediately
and that the Company pay the Competitor an amount of $6.3 million.

F - 19

---

---



# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# NOTES TO THE
CONSOLIDATED FINANCIAL STATEMENTS

# (Amounts expressed in
U.S. dollars)

# 11. Commitments And
Contingencies (continued)

On
October 28, 2002, the Competitor filed an action in the United States District Court for
the Central District of California alleging that the Syneron entities were infringing six
patents assigned to the Competitor.

In
July 2003, the United States District Court denied in part and granted in part the
Competitors motion for a preliminary injunction, granting a preliminary injunction
against the Company on one of the patents in dispute as to certain products when used in a
particular manner.

In
March 2004, the Company, its subsidiaries and the Competitor signed a settlement agreement
according to which:

| | a. | All
existing actions between the parties and between the parties and former
               employees and shareholders were dismissed with prejudice with no admission
of                wrongdoing by either party. Each party was to bear its own costs and
legal fees.
| | -- | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

| | b. | In
consideration for the settlement of the claims, the Company agreed to pay a
               fee under certain payment terms.
| | -- | ------------------------------------------------------------------------------------------------------------------------------

The
entire settlement fee and the related direct legal costs have been recorded in the
financial statement as of December 31, 2002 and 2003, in settlement and legal costs. The
2002 portion consists solely of legal costs. The settlement fee and related costs paid
through December 2004 were $5,373. The balance will be paid in 2005.

On
July 23, 2004, Thermage, Inc. sued the Company in the United States District Court for the
Northern District of California, for patent infringement, seeking an injunction against
infringing their patent rights and unspecified damages. A preliminary injunction sought by
Thermage against the sale of our Polaris WR wrinkle treatment device in the United States
was denied. Thermage subsequently amended its complaint to include claims of infringement
of five additional patents. The Company has denied Thermages allegations and has
filed a counterclaim for injunctive relief and damages, alleging that Thermage is
infringing a patent the Company acquired in 2004. The Company believes it has meritorious
defenses to Thermages suit and intends to defend it vigorously. If Thermage were to
obtain an injunction, it could prevent the Company from manufacturing, marketing and
selling some or all of its products in the United States which could have a material
adverse effect on its business.

On
July 29, 2004, Shladot Metal Works Ltd. (Shladot), a privately owned Israeli
company, sued the Company and its chairman of the board of directors
(Chairman), in a Haifa, Israel District court, claiming that in 1999 the
Chairman had access to confidential material regarding an Israeli patent, which he
allegedly used in violation of a confidentiality agreement in connection with forming the
Company. The complaint alleges that the Companys products infringe Shladots
Israeli patent. In its lawsuit Shladot is suing the Company for $2.3 million (NIS 10
million) and has requested an injunction against the Company which will prohibit
manufacturing, marketing and selling some or all of its products, which, if successful,
could have a material adverse effect on the Companys business in Israel.

On
October 10, 2004 the Company submitted its Statements of Defense to the Court, claiming
that Shladots patent is invalid due to the existence of prior art, lack of novelty
and no improvement over existing art in the field. Shladots patent is under review
by the Israeli Patent Office, based on a request submitted to the Patent Office by a third
party claiming that Shladots patent is invalid. Moreover, the Company claims that
even if the patent would have been valid, none of the Company device infringes any of the
claims.

F - 20

---

---



# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# NOTES TO THE
CONSOLIDATED FINANCIAL STATEMENTS

# (Amounts expressed in
U.S. dollars)

# 11. Commitments And
Contingencies (continued)

On
October,10, 2004 the Company submitted a counterclaim against Shladot, its Chairman and
the inventor of Shladots patent, claiming that the Defendants conspired together in
order to bring a baseless lawsuit against the Company trying to interfere with the
Companys IPO, in the US, by submitting false claims against the Company and its
Chairman. The Company also claims that the Defendants were trying to extort funds from the
Company and its Chairman at an sensitive time for the Company (just five days before the
finalization of the IPO) and that Shladots lawsuit forced the Company to reduce its
offering price from the original range $14-16 to $12 per share, resulting in significant
monetary damage to the Company. The Defendants submitted their Statements of Defense on
December 5, 2004.

Both
the claim and the counterclaim are at a very early stage and no hearing has been scheduled
yet. Based on the opinion of the Companys legal counsel, management believes that
the Company has good defenses to Shladots suit.

# 12. Shareholders
Equity

|(a) | Share
Capital
|--- | -------------

On
July 12, 2004, the board of directors and shareholders approved an increase in the
authorized ordinary shares to 100,000,000 NIS 0.01 par value each, and a 3.4 for 1 stock
split of all outstanding ordinary shares. All ordinary share and per share amounts, as
well as the outstanding stock options included in the financial statements, have been
retroactively restated to reflect the stock split. Prior to this action, the Company had
4,007,801 preferred shares authorized and 5,992,199 ordinary shares authorized.

Upon
closing of the Offering (See Note 1(c)), each outstanding preferred share was converted
into 3.4 ordinary shares.

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

In
2002, the Company issued 1,065,079 preferred B shares (3,621,269 ordinary shares on a
post-split basis) for a total consideration of $2,000.

In
2003, two shareholders exercised their warrants to purchase 305,000 preferred A shares
(1,037,000 ordinary shares on a post-split basis) for a total consideration of $147. All
other 260,000 warrants (884,000 warrants on a post-split basis) granted to purchase
preferred A shares expired in June 30, 2003.

In
October 2003, the Company repurchased 120,000 preferred A shares (408,000 ordinary shares
on a post-split basis) from a shareholder for a total consideration of $226. In February
2004, the Company repurchased an additional 74,963 preferred A shares (254,874 ordinary
shares on a post-split basis) from another shareholder for a total consideration of $235.

In
February 2004, a director of the Company purchased 50,000 preferred A shares (170,000
ordinary shares on a post-split basis) for a total consideration of $149.

F - 21

---

---



# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# NOTES TO THE
CONSOLIDATED FINANCIAL STATEMENTS

# (Amounts expressed in
U.S. dollars)

# 12. Shareholders
Equity (continued)

# (b) Stock Option Plan

In
2001, the Companys board of directors approved the grant of options to employees,
consultants and directors of the Company, and reserved 2,614,158 ordinary shares for
issuance pursuant to the stock options. All options granted prior to 2003 were granted
pursuant to specific option agreements rather than under a stock option plan. In 2003, the
shareholders of the Company approved a stock option plan and an increase in the number of
ordinary shares reserved for option issuances to up to 5,440,000 ordinary shares.

The
exercise price of the options granted in 2001 and 2003 was equal to or was below the fair
market value of the Companys ordinary shares at the date of grant. Options granted
generally vested over a period of two to four years, and will expire between 2008 and
2010. Any option which is cancelled or forfeited before expiration becomes available for
future grants.

In
May 2004, the Company decided to cancel the remaining unallocated 279,783 options under
the 2003 option pool. Upon expiry of any allocated options, such options and any ordinary
shares previously reserved in the option pool for such options shall be automatically
cancelled.

In
2004, the Company adopted the 2004 Israel Stock Option Plan (for Israeli residents) and
the 2004 Incentive Stock Option Plan (for United States, Canada and the rest of the world)
(collectively, the 2004 Plans). An aggregate of 2,000,000 options were
approved for grant under the 2004 Plans. Each of the 2004 Plans contains an evergreen
provision which increase the number of ordinary shares available for grant under the plan
on an annual basis.

The
exercise price of grants made during 2004 under the 2004 plans were made at fair market
value of the Companys ordinary shares at the date of grant. Options granted vest on
grant date up to a period of four years, and expire after seven years from the date of
grant.

A
summary of the Companys share option activity (except options granted to
consultants) under the Plans is as follows:

|                                  | December 31,
|--------------------------------- | ------------
|
|
|
|
|Outstanding beginning of the year |             
|Granted                           |             
|Exercised                         |             
|Forfeited                         |             
|                                  |             
|Outstanding - end of the year     |             
|                                  |             
|Options exercisable at the end of |             
|the year                          |             
|                                  |             

F - 22

---

---



# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# NOTES TO THE
CONSOLIDATED FINANCIAL STATEMENTS

# (Amounts expressed in
U.S. dollars)

# 12. Shareholders
Equity (continued)

The
following table summarizes information about options outstanding and exercisable as
December 31, 2004:

|Exercise
Prices | Options
Outstanding
As of December
2004 | Weighted
Average Remaining
Contractual
Life (Years) | Weighted
Average
Exercise Price | Options
Exercisable as of
December 2004 | Weighted Average
Exercise Price of
Exercisable options
|--------------- | --------------------------------------- | --------------------------------------------------- | ------------------------------- | --------------------------------------- | ------------------------------------------------------
|
|
|
|
|$0.07 - $0.14   |                                         |                                                     |                                 | 3,326,807                               |                                                       
|$ 9.00          |                                         |                                                     |                                 | 203,000                                 |                                                       
|$18.69          |                                         |                                                     |                                 | 310,000                                 |                                                       
|$25.75          |                                         |                                                     |                                 | 151,000                                 |                                                       
|                |                                         |                                                     |                                 |                                         |                                                       

Where
the Company has recorded deferred stock compensation for options issued with an exercise
price below the fair value of the ordinary shares, the deferred stock compensation is
amortized and recorded as compensation expense ratably over the vesting period of the
options. Compensation expense of $2, $64 and $148 was recognized during the years ended
December 31, 2002, 2003 and 2004, respectively.

The
weighted average fair values of options (including non-employees) granted during the years
ended December 31, 2003 and 2004 were:

|                                          | Equals market price
Year ended December 31, | Less than market price
Year ended December 31,
|----------------------------------------- | ------------------------------------------- | ----------------------------------------------
|
|
|
|
|Weighted average exercise prices          |                                             |                                               
|Weighted average fair value on grant date |                                             |                                               

The
Companys outstanding options to consultants as of December 31, 2004 are as follows:

|Issuance date    | Options for
Ordinary
Shares | Exercise
Price per
Share | Options
Exercisable | Exercisable
Through
|---------------- | --------------------------- | ------------------------ | ------------------- | -------------------
|
|
|
|
|March 11, 2003   |                             |                          |                     | 437,727            
|October 20, 2003 |                             |                          |                     | 138,727            
|                 |                             |                          |                     |                    
|                 |                             |                          |                     | 575,954            
|                 |                             |                          |                     |                    

The
Company accounted for options issued to consultants and certain shareholders in 2001,
under the fair value method described in SFAS No. 123 and EITF No. 96-18.

The
options to consultants vested on the date of grant. The fair value of these options was
estimated using Black-Scholes option-pricing model with the following weighted-average
assumptions for 2002 and 2003: risk-free interest rates of 5.03% and 4.06%, respectively,
dividend yields of 0% for each year, volatility factors of the expected market price of
the Companys ordinary shares of 0.7 for each year, and a weighted-average
contractual life of the options of approximately 7 years. Compensation expenses of
approximately $32, $231 and $0 were recognized in the years ended December 31, 2002, 2003
and 2004, respectively.

|(c) | Dividends
|--- | ---------

The
Company has never paid cash dividends to shareholders. The Company intends to retain
future earnings for use in its business and does not anticipate paying cash dividends on
its shares in the foreseeable future. Any future dividend policy will be determined by the
board of directors and will be based upon conditions then existing, including results of
operations, financial condition, current and anticipated cash needs, contractual
restrictions and other conditions as the board of directors may deem relevant. In the
event that cash dividends are declared in the future, such dividends will be paid in U.S.
dollars subject to any statutory limitations.

F - 23

---

---



# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# NOTES TO THE
CONSOLIDATED FINANCIAL STATEMENTS

# (Amounts expressed in
U.S. dollars)

# 13. Income Taxes

|(a) | Applicable
Tax Laws
|--- | -------------------

Amendment
to the Income Tax Ordinance

On
June 29, 2004, the Israeli parliament approved the Amendment to the Income Tax Ordinance
(No. 140 and temporary Provision) (the Amendment) which reduces the corporate
tax rate progressively from 36% to 35% in 2004 and to a rate of 30% in 2007. The enactment
of the amendment did not have a significant effect on the Companys financial
statements.

Measurement
of taxable income under Israels Income Tax (Inflationary Adjustments) Law, 1985

Results
for tax purposes for the Company are measured and reflected in accordance with the change
in the   Israeli Consumer Price Index (CPI). As explained above in Note 2B,
the consolidated financial statements are presented in U.S. dollars. The differences
between the change in the Israeli CPI and in the NIS/U.S. dollar exchange rate cause a
difference between taxable income and the income before taxes reflected in the
consolidated financial statements.

In
accordance with paragraph 9(f) of SFAS No. 109, the Company has not provided deferred
income taxes on the above difference between the reporting currency and the tax basis of
assets and liabilities.

Tax
benefits under Israels Law for the Encouragement of Industry (Taxes), 1969

The
Company is Industrial Company, as defined by the Law for the Encouragement of
Industry (Taxes), 1969, and as such, the Company is entitled to certain tax benefits,
mainly amortization of costs relating to know-how and patents over eight years,
accelerated depreciation and the right to deduct public issuance expenses for tax purpose.

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

The
Company maintains one investment program in buildings, equipment and production facilities
which have been granted the status of Approved Enterprise under the Law for
the Encouragement of Capital Investments, 1959. The Company elected to adopt the
Alternative Benefits Program status. This status entitles the Company to an
exemption from taxes on income derived there from for a period of 10 years starting in the
year in which the Company first generates taxable income, but not later than 14 years from
the date of approval or 12 years from commencement of operations.

If
these retained tax-exempt profits are distributed in a manner other than in the complete
liquidation of the Company they would be taxed at the corporate tax rate applicable to
such profits as if the Company had not elected the alternative system of benefits
(depending on the level of foreign investment in the Company) currently between 10% to 25%
for an Approved Enterprise. The benefit period commenced in 2002.

Final
approval in respect of the investment program was received by the Company in 2003.

The
entitlement of the above mentioned benefits is conditional upon the Companys
fulfilling the conditions stipulated by the above mentioned law, regulations published
thereunder and the certificates of approval for the specific investments in approved
enterprises. In the event of failure to comply with these conditions, the benefits may be
cancelled and the Company may be required to refund the amount of the benefits, in whole
or in part, with the addition of linkage differences, to the CPI and interest. Management
believes that the Company is in compliance with the above mentioned conditions through
December 31, 2004.

F - 24

---

---



# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# NOTES TO THE
CONSOLIDATED FINANCIAL STATEMENTS

# (Amounts expressed in
U.S. dollars)

# 13. Income Taxes
(continued)

|(a) | Applicable
Tax Laws (continued)
|--- | -------------------------------

As
of December 31, 2004, retained earnings included approximately $43,000 in tax-exempt
profits earned by the Companys Approved Enterprise.

If
the retained tax-exempt income is distributed it would be taxed at the corporate tax rate
applicable to such profits as if the Company had not elected alternative tax benefits
(currently  25%) and an income tax liability would be incurred of approximately
$10,800 as of December 31, 2004.

In
Israel income from sources other than the Approved Enterprise during the
benefit period will be subject to tax at the regular corporate tax rate of 35% in 2004 and
to rate of 30% progressively (See Note 13(a)(1)).

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 was
introduced according to which an Israeli company may become subject to Israel taxes on
certain income of a non-Israeli subsidiary if the subsidiarys primary source of
income is passive income (such as interest, dividends, royalties, rental income or capital
gains). The tax reform also substantially changed the system of taxation of capital gains.
The adoption of the tax reform did not have material impact on the Company.

|(b) | Non-Israeli
Subsidiaries
|--- | ------------------------

Non-Israeli
subsidiaries are taxed based on tax laws in their countries of residence.

|(c) | Deferred
Income Taxes
|--- | ---------------------

Deferred
taxes in respect of temporary differences between carrying amounts of assets and
liabilities for financial reporting and amounts used for tax reporting purposes are
immaterial.

The
Companys non-Israeli subsidiaries in Germany, Canada and the United States have
available estimated carryforward tax losses of approximately $3,247, $465 and $341,
respectively. Since the non-Israeli subsidiaries have a history of losses it is more
likely than not that the deferred tax regarding the loss carryforwards will not be
utilized in the foreseeable future, consequently, a valuation allowance was set against
the tax assets arising from those losses. Following is the movement in the valuation
allowance:

|                                | 
|------------------------------- | 
|
|
|
|
|Balance as of December 31, 2002 | 
|Add movement in 2003            | 
|                                | 
|Balance December 31, 2003       | 
|Add movement in 2004            | 
|                                | 
|Balance December 31, 2004       | 
|                                | 

F - 25

---

---

# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# NOTES TO THE
CONSOLIDATED FINANCIAL STATEMENTS

# (Amounts expressed in
U.S. dollars)

# 13. Income Taxes
(continued)

|(d) | Income
Before Taxes On Income
|--- | -----------------------------

|         | Year ended December 31,
|-------- | -----------------------
|
|
|
|
|Domestic |                        
|Foreign  |                        
|         |                        
|         |                        
|         |                        

|(e) | Taxes
On Income
|--- | ---------------

|         | Year ended December 31,
|-------- | -----------------------
|
|
|
|
|Domestic |                        
|Foreign  |                        
|         |                        
|         |                        
|         |                        

The
main reconciling items between the statutory tax rate of the Company and the effective tax
rate is a decrease in taxes resulting from Approved Enterprise benefits and
the valuation allowances in respect of subsidiaries losses.

A
reconciliation between the theoretical tax expense, assuming all income is taxed at the
statutory tax rate applicable to income of the Company and the actual tax expense as
reported in the Statement of Operations, is as follows:

|                                                                    | Year ended December 31,
|------------------------------------------------------------------- | -----------------------
|
|
|
|
|Income before taxes, as reported in the                             |                        
|consolidated statements of operations                               |                        
|Statutory tax rate                                                  |                        
|                                                                    |                        
|Theoretical tax expenses (benefits) on the above amount at the      |                        
|Israeli Statutory tax rate                                          |                        
|Decrease in taxes resulting from "Approved Enterprise" benefits (1) |                        
|Deferred taxes on losses for which valuation allowance was provided |                        
|Non-deductible expenses                                             |                        
|                                                                    |                        
|Actual tax expense                                                  |                        
|                                                                    |                        
|(1) Per share amounts (basic) of the tax benefit resulting from     |                        
|the exemption                                                       |                        
|                                                                    |                        
|Per share amounts (diluted) of the tax benefit resulting from       |                        
|the exemption                                                       |                        
|                                                                    |                        

F - 26

---

---



# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# NOTES TO THE
CONSOLIDATED FINANCIAL STATEMENTS

# (Amounts expressed in
U.S. dollars)

# 14. Financial
Income, Net

|                                                              | Year ended December 31,
|------------------------------------------------------------- | -----------------------
|
|
|
|
|Income                                                        |                        
|Interest on cash equivalents:                                 |                        
|Gain and interest on available for sale marketable securities |                        
|Gain on short-term deposits and structured notes              |                        
|Foreign currency translation adjustments                      |                        
|Expenses:                                                     |                        
|Interest on short-term credit and bank commissions            |                        
|                                                              |                        
|                                                              |                        
|                                                              |                        

# 15. Major Customers
And Geographic Information

The
Company applies Statement of Financial Accounting Standard No. 131 Disclosures About
Segments of an Enterprise and Related Information, (SFAS No. 131). The
Company operates in one reportable segment (see Note 1 for a brief description of the
Companys business). The total revenues are attributed to geographic areas based on
the location of the end customer.

The
following presents total revenues for the years ended and long-lived assets as of December
31, 2002, 2003 and 2004:

|               | December 31,
|-------------- | ------------
|
|
|
|
|North America  |             
|Asia Pacific   |             
|Western Europe |             
|Israel         |             
|Others         |             
|               |             
|               |             
|               |             

Major
customers data as a percentage of total revenues:

|           | Year ended December 31,
|---------- | -----------------------
|
|
|
|
|Customer A |                        

F - 27

---

---



# SYNERON MEDICAL LTD.
AND ITS SUBSIDIARIES

# NOTES TO THE
CONSOLIDATED FINANCIAL STATEMENTS

# (Amounts expressed in
U.S. dollars)

# 16. Earning Per
Share

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

|                                                                 | Year ended December 31,
|---------------------------------------------------------------- | -----------------------
|
|
|
|
|Numerator:                                                       |                        
|Net income                                                       |                        
|                                                                 |                        
|Denominator:                                                     |                        
|Weighted-average number of shares outstanding used in computing  |                        
|basic net earnings per share                                     |                        
|Dilutive effect: employees stock options                         |                        
|Dilutive effect: warrants issued to investors                    |                        
|                                                                 |                        
|Total weighted-average number of share used in computing diluted |                        
|net income per share                                             |                        
|                                                                 |                        
|Basic net earnings per share                                     |                        
|                                                                 |                        
|Diluted net earnings per share                                   |                        
|                                                                 |                        

Anti-dilutive
securities

The
following outstanding options and warrants (prior to the application to the treasury
shares method) were excluded from the computation of diluted net income per ordinary share
for the periods presented because including them would have had an anti-dilutive effect.

|                                    | Year ended December 31,
|----------------------------------- | -----------------------
|
|
|
|
|Options to purchase ordinary shares |                        

F - 28

---

---



# SIGNATURES

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

| |  | Syneron Medical Ltd.BY: /S/ Moshe Mizrahy,
Moshe Mizrahy,Chief Executive Officer
| |  | ----------------------------------------------------------------------------------------------

Date: June 30, 2005



---

---

EXHIBIT INDEX

|1.1 |  | Registrant's
Articles of Association*
|--- |  | -------------------------------------

|1.2 |  | Certificate
Confirming Alteration of a Company's Name (English Translation)*
|--- |  | ----------------------------------------------------------------------------

|4.1 |  | Turn-Key
Manufacturing Agreement by and between R.F.L. Technologies Ltd. and A' to Z' Electronics
Ltd.*^
|--- |  | --------------------------------------------------------------------------------------------------------

|4.2 |  | Turn-Key
Manufacturing Agreement by and between Syneron Medical Ltd. and U.S.R. Electronics
Systems (1987) Ltd.*^
|--- |  | -----------------------------------------------------------------------------------------------------------------

|4.3 |  | Turn-Key
Manufacturing Agreement by and between Syneron Medical Ltd. and Fibernet Ltd.*^
|--- |  | ----------------------------------------------------------------------------------------

|4.4 |  | Patent
License and Settlement Agreement dated March 4, 2004 by and between (a) Lumenis Inc. and
Lumenis Ltd. and (b)          Syneron Inc. and Syneron Medical Ltd.*^
|--- |  | ---------------------------------------------------------------------------------------------------------------------------------------------------------------------

|4.5 |  | 2003
Stock Option Plan*
|--- |  | -----------------------

|4.6 |  | 2004
Israel Stock Option Plan*
|--- |  | ------------------------------

|4.7 |  | 2004
United States, Canada and Rest of World Stock Option Plan*
|--- |  | ---------------------------------------------------------------

|4.8 |  | Patent
License and Settlement Agreement dated as of June 3, 2005 by and between Thermage, Inc.
and Syneron Medical          Ltd.
|--- |  | --------------------------------------------------------------------------------------------------------------------------------

|8. |  | List
of subsidiaries*
|-- |  | ---------------------

|12.1 |  | Certification
of Chief Executive Officer
|---- |  | ----------------------------------------

|12.2 |  | Certification
of Chief Financial Officer
|---- |  | ----------------------------------------

|13. |  | Certification
of Periodic Financial Reports
|--- |  | -------------------------------------------

|15.1 |  | Consent
of Independent Registered Public Accounting Firm
|---- |  | --------------------------------------------------------

---

*Previously filed as an exhibit to
the Registration Statement on Form F-1 with respect to the Registrants initial
public offering.

^Portions of this exhibit have been
omitted and filed separately with the secretary of the Securities and Exchange Commission
pursuant to a confidential treatment request.



---

---